A recent decision by the Ontario Court of Appeal has provided clarity on how courts should approach secondary market misrepresentation cases at the preliminary leave stage.
In Rahimi v SouthGobi, the Plaintiff Paiman Rahimi (represented by Siskinds) appealed a lower court decision that had granted him leave to commence an action for misrepresentations under the Ontario Securities Act against the Defendant SouthGobi but denied him leave against certain of the company’s officers and directors.
In the lower court and on appeal the company claimed that it had not made any misrepresentations, even though it had it corrected previously issued financial statements and released public statements acknowledging that its financial statements for a two-year period “were no longer accurate and should not be relied upon.” In its defence of the lawsuit, however, the company claimed that it had been forced to make these announcements due to certain external pressures placed on it that had not been publicly disclosed.
The lower court judge found that leave to commence an action against SouthGobi was merited given the company’s public statements but ruled that the Plaintiff had no reasonable prospects of success against the company’s former officers and directors. Relying on the affidavits filed by these individual Defendants, the motion judge concluded that they had diligently reviewed the relevant accounting issues and reasonably relied on the findings of the company’s auditors at the time the financial statements had been released and so had established the “reasonable investigation” defence available to them under the Securities Act.
The Court of Appeal strongly disagreed with the motion judge, finding that there were numerous reasons why the officers and directors could not establish the reasonable investigation defence at the preliminary leave stage.
The Court of Appeal’s reasons focused on the discrepancy between the language used in SouthGobi’s public restatement – which the Court found was “powerful evidence that strongly contradicts a defence of reasonable investigation” – and the alternative narrative the company and its former officer and directors took on the motion. The Court found that this gap gave rise to serious issues of credibility which had not been fully addressed in the defendants’ evidence.
The Court pointed to a series of deficiencies in the evidence, including a lack of contemporaneous evidence supporting the alternative narrative, the failure of SouthGobi to disclose the alternative narrative publicly and a lack of evidence from the accounting firms involved with the restatement. The Court found that the motion judge erred in law by definitively finding in favour the directors and officers given these deficiencies, noting in a passage likely to be utility to future class action plaintiffs that “…in the face of the limited record and significant credibility issues, the proper course for the motion judge was not to do the best he could on the available record, treating the motion as if it were a mini-trial. Rather, the lack of a clear record makes evident that leave must be granted because there is no certainty that the reasonable investigation defence will succeed.”
The Court also found that the discrepancy between the SouthGobi’s public statements and position on the motion raised public policy concerns. Stating that the “heart of the submissions made by [SouthGobi] and the Individual Respondents is the rather remarkable proposition that they should be permitted to evade a meritorious action at the leave stage because they previously made material misrepresentations during a restatement process about their company but they are now telling the truth about the same issue” the Court found that there is “no room for prevarication or double-talk” in a corporation’s continuous disclosure obligations and that the motion judge “failed to consider this policy imperative and rendered a decision with respect to the Individual Respondents that is inconsistent with basic notions of securities regulation.”
The Court’s strong statements on this issue, and on defendants’ recourse to defences at the leave stage, are of significance to future securities class action.