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Coventree Sanctions Show Risks to Public Companies and Executives in Faulty Material Disclosure Judgments

Date

December 30, 2011

AUTHOR(s)

Rene Sorell


The Ontario Securities Commission (OSC) has released its reasons for imposing sanctions on Coventree Inc. (Coventree) and its two most senior officers for failing on two occasions to issue press releases and material change reports. These failures produced four breaches of Coventree’s disclosure obligations as a reporting issuer in Canada. The sanctions are significant ($2.25 million in penalties and costs) and were divided between the company ($1.25 million) and the two senior officers’ charges ($500,000 each).

The sanctions are significant for both reporting issuers like Coventree and the most senior officers responsible for determining when material changes occur in a public company’s business.

The decision sends the following messages to public companies, generally:

  • Disclosure is of capital importance in securities law: ¶¶ 48-52.
  • The failure to recognize and publicly disclose material changes on multiple occasions is treated as egregious conduct (¶62) deserving of a penalty equal to the highest ($1 million) the OSC can impose.
  • The OSC considered but did not treat, either as defences or as significantly mitigating factors: (¶67):
    • that Coventree’s breach of its disclosure obligations was unintentional;
    • the unusual factual circumstances producing unprecedented instability in its business;
    • the fact that Coventree disclosed some of the information in letters or management discussion and analysis (MD&A) disclosure and intended to amplify that disclosure in prospective MD&A filings;
    • the fact that some of the disclosure decisions raised difficult and complex issues in the midst of an unprecedented credit crisis; and that
    • the breaches of the (Ontario) Securities Act (Act) were "less egregious" than other disclosure cases, such as the Cineplex case involving Myron Gottlieb and Garth Drabinsky.
  • Even though the OSC acknowledged that Coventree is in the process of winding up and that there is next to no danger of a recurrence of misconduct, the OSC focused on imposing a substantial penalty that would promote general deterrence: ¶68.
  • If Coventree had breached the statute only by failing to file material change reports but had promptly issued press releases in respect of these changes, the breaches would have been treated as less serious: ¶60.
  • The OSC stated that it could have imposed the maximum administrative penalty of $1 million for each of the four breaches and explicitly rejected the argument that only one sanction should be imposed in relation to breaches arising out of a single set of facts: ¶65. Accordingly, the $1 million penalty was "significant … but not at the top end of the range of penalties we could have imposed": ¶74.

Each of the two officers against whom proceedings were brought received a $500,000 monetary penalty. Some noteworthy considerations in relation to the officers are:

  • In keeping with other OSC decisions, the high seniority, sophistication and degree of involvement of both officers in materiality judgments tended to magnify the standard of conduct expected of them: ¶57.
  • The complexity of the disclosure judgments they are making, the unusual circumstances in which the judgments were being made and the willingness of the officers to make their reasoning transparent to the Coventree board did not relieve the officers of responsibility.
  • The officers’ high level of cooperation and lack of financial benefit were not sufficient to reduce the financial penalty below $500,000 each: ¶67.
  • The officers’ rights to seek indemnity from Coventree were not denied by the OSC because the OSC decided it did not have this power under s 127 of the Act: ¶ 79.

In the award of costs (¶¶81 and following), the staff cost request was significantly reduced because:

  • counsel were responsible in the conduct of the contested proceeding;
  • counsel agreed some facts so that every factual issue would not have to be canvassed;
  • staff proved only part of its case and did not prove the principle that every day that a disclosure remained unmade constituted a new offence; and
  • some of the issues discussed were matters of first impression.

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