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In the recent case of Miller v FSD Pharma, Inc.1, the Ontario Superior Court of Justice clarified the standard for materiality in a motion for leave to commence an action under s. 138.3 of the Ontario Securities Act (“OSA”) for misrepresentations in secondary market disclosure.

We have probably all heard the saying “context is everything.” Miller stands for the proposition that, in securities law, the context of financial disclosure is everything. Investors need to be able to see and digest relevant information. If negative information is buried in a footnote, as happened here, that will not be sufficient to provide notice to the market. If that negative information is later put into context and the price of a company’s securities drop, there will be recourse for investors.

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The defendant, FSD Pharma, Inc. (“FSD”) was a new entrant in the cannabis production space. FSD needed to build a production facility to grow its cannabis and to generate income by selling it. The facility was supposed to be “the world’s largest cannabis indoor hydroponic grow operation.”  Against this backdrop, FSD issued its Q3 MD&A dated November 29, 2018, stating that:

[FSD] expects the first phase construction [of the production facility] to be completed and ready for Health Canada approval by the end of December 2018. Pending regulatory approval the Company expects to plant the first harvest in the first phase by the end of January 2019.

Though FSD told investors that construction was on schedule, it was not. The project was falling apart on financing and construction, and the joint venture with Auxly Cannabis Group Inc. (“Auxly”) behind it was crumbling. Accordingly, the plaintiff’s Statement of Claim alleged that FSD misrepresented material facts in its public disclosure.

The plaintiff pleaded that the misrepresentation was corrected some 6 weeks later in a news release. Within a footnote to an otherwise positive release related to other matters, FSD advised the construction project would be “completed in 2019”, a year late. One would think this was bad news, given that FSD’s profitability, and its ultimate success as a business, was contingent on building a facility to grow its product. Yet, strangely, the market did not react. In fact, the price of shares rose by 27.6% ($0.10) the following day.

While the initial correction had little impact, the plaintiff argued that follow-up news releases of February 6 and 7, 2019 revealed the broader context of the initial corrective statement. These news releases announced, among other things, the replacement of FSD’s CEO and termination of the joint venture with Auxly to build the facility. After their issuance, the price of the FSD’s shares declined by roughly 20%.

At court, FSD argued that the lack of immediate market impact suggested the construction timeline was not material, or, made no difference to investors. Investors were in it for the long haul, as evidenced by the market’s reaction the next day – the price went up. Quite oppositely, the plaintiff argued that the delay was a “material fact that would be considered important to the reasonable investor”, and this alone satisfied the test for leave. The Court’s analysis therefore focused on the issue of whether the misrepresentation was “material” or not, and the applicable legal test to determine that issue. 

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The Court observed that materiality, for the purposes of a s. 138.3 claim, is defined in two places: s. 1(1) of the OSA, and Form-51-102F1 (which circumscribes the manner in which a company’s MD&A is to be prepared).  The statute’s approach to materiality sets out a market impact standard, while the Form sets out a “reasonable investor” standard. The court had to decide which of these applied.

Justice Morgan held that, in Ontario, our legislature made a policy choice set out in the statute. In defining materiality, s. 1(1) of the OSA states that:

[a] “material fact”, when used in relation to securities issued or proposed to be issued, means a fact that would reasonably be expected to have a significant effect on the market price or value of the securities.

Therefore, the market impact standard applies in Ontario. This presented a problem for the plaintiff because, as set out above, the evidence suggested there was no market impact following the release of the pleaded corrective disclosure.

The market impact issue ultimately turned on context. Citing Cornish v Ontario (Securities Commission)2, Justice Morgan indicated that “materiality is a highly contextual issue that… appl[ies] statutory obligations to a particular company in the context of its industry and market.”3 Looking at the corrective disclosure, His Honour observed it was “all but hidden” in the January 8, 2019 press release.

Any market impact analysis therefore had to take account of the context of the misrepresentation. In considering the corrective disclosure combined with the later news releases, His Honour found “the market impact of delay in the project [could now be] understood as part of the deterioration of the…[joint venture] relationship”, a very serious matter for investors reflected in the drop of the price of FSD’s securities.

To make matters worse, the Court observed that FSD knew the project was not proceeding as scheduled when it issued its Q32018 MD&A. The day before it was released, FSD’s president emailed Auxly to confirm certain details with respect to timeline for completion of the construction project. To put it mildly, Auxly’s response suggested things were in crisis: “…we’re drinking from a firehose right now. As soon as we have something good I’ll give you the heads-up.” Despite this being FSD’s only information about the production facility, it proceeded to issue disclosure forecasting that the project was on schedule.

Given the communications from the defendant and the context in which they were issued, the Court determined there was a reasonable chance the action would be resolved in the plaintiff’s favour, and granted her leave.

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The lesson here is that companies cannot and should not try to be tricky when it comes to their financial disclosure. Though on a strict reading of the case law, there was no immediate market impact upon the release of the pleaded corrective disclosure – when that disclosure was put in context, there was indeed an impact on the market. Words don’t have meaning until they are embedded in context, and bad news will not be taken as bad news until it is understood.


1 Miller v FSD Pharma, Inc., 2020 ONSC 4054 [“Miller”].

2 2013 ONSC 1310 (Ont. Div. Ct.) [“Cornish”].

3 Ibid at para 51.

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