The Lexpert Guides to the Leading US/Canada Cross-Border Corporate and Litigation Lawyers in Canada profiles leading business lawyers and features articles for attorneys and in-house counsel in the US about business law issues in Canada.
Issue link: https://digital.carswellmedia.com/i/218955
DIRECTOR LIABILITY "PLAINTIFFS ARE BEING MORE AND MORE CREATIVE IN THEIR THEORIES OF THE CAUSES [OF LEGAL ACTIONS]. IF YOU SIT AS A DIRECTOR, YOU REALLY, REALLY NEED TO KNOW WHAT YOU ARE DOING." Julie-Martine Loranger > Gowling Lafleur Henderson LLP EMERGING MARKETS Directors' exposure to emerging-market risks has been sharply highlighted in the SinoForest affair, which involves a Toronto Stock Exchange (TSX) listing and forestry assets in China. Sino-Forest Corporation, with a market capitalization that reached C$5.78 billion, is under investigation by the RCMP and has been suspended from trading by the Ontario Securities Commission (OSC). Its troubles began after US short-seller Carson Block of Muddy Waters, LLC pointed to irregularities and called the company "a multi-billion-dollar Ponzi scheme." Sino-Forest has denied allegations of fraud and sought protection under the Companies' Creditors Arrangement Act (CCAA). A preliminary Sino-Forest ruling demonstrates that directors can't count on company-provided indemnity protection in cases of corporate insolvency, says Julie-Martine Loranger, with the Montréal office of Gowling Lafleur Henderson LLP. In Sino-Forest, the court disallowed the payment of indemnities to auditors and underwriters who were being sued by investors. The court ruled that indemnity claims were, at bottom, driven by claims of unsecured investors on the assets of the company and therefore subordinate to the secured claims of creditors. The same principle extends to directors' indemnities and applies in both Canada and the US, Loranger says. "If the company goes belly up, you're sitting on a nice piece of paper that's not worth anything," she says. She advises directors to insist companies provide third-party D&O (directors and officers) liability insurance and to make sure it's as comprehensive as possible. More or less simultaneously, the Delaware Court of Chancery has refused to dismiss a suit against US-based independent directors of Puda Coal Inc. for breach of fiduciary duty in In re Puda 12 | LEXPERT • December 2013 | www.lexpert.ca Coal, Inc. Stockholders Litigation, Del. Ch. C.A. 6476-CS. The suit was filed after an audit found that two China-based directors had misappropriated all of the company's assets, including its only producing property. Chancellor Strine said those who oversee Delaware-incorporated companies with operations in foreign countries can't be "dummy directors." "If the assets are in [China], you're not going to be able to sit in your home in the US and do a conference call four times a year…. That won't cut it," Strine said. To meet the Delaware good-faith test he said a director must 1) "have your physical body in China an awful lot"; 2) "have in place a system of controls to make sure you actually own the assets"; 3) "have retained accountants and lawyers who are fit to the task of maintaining a system of controls over a public company"; and 4) possess "the language skills to navigate the environment in which the company is operating." Barry Bresner, with Borden Ladner Gervais LLP in Toronto, says that while Delaware decisions tend to be influential in Canada, the Puda pronouncements are a preliminary ruling and likely an example of "a judge using loose language" that shouldn't be taken as the final word. He notes that where there are no "red flag" indicators of trouble, directors "are entitled to rely, by and large, on financial statements and professional advisors" under US law. Alex Cobb, of Osler, Hoskin & Harcourt LLP in Toronto, says "everybody took note" of the Puda ruling but he thinks its influence in Canada will be limited. Canada, he says, would likely not go so far as to require a regular physical presence of directors in a foreign country or that they speak the language there. On the other hand, Cobb says, "the fact that operations are taking place where everybody speaks a language you don't speak is just not an excuse. If you're a director, you have to know what's