Archive for the ‘Corporate Governance’ Category

Shafik Bhalloo
Tuesday, October 23rd, 2012    Posted by Shafik Bhalloo (posts)
Shafik Bhalloo
Shafik Bhalloo has been a partner of Kornfeld LLP since 2000. His practice is focused on labour and employment law, and on commercial and civil litigation. He is also an Adjudicator on the Employment Standards Tribunal and an Adjunct Professor in the Faculty of Business Administration at Simon Fraser University.

 By Devin Lucas and Shafik Bhalloo

In Globex Foreign Exchange Corporation v. Kelcher[1], three employees, David Kelcher, Mark MacLean, and Luciano Oliverio entered into employment contracts with Globex Foreign Exchange Corporation, a business engaged in foreign currency exchange. In 2003, each employee signed a non-competition and non-solicitation agreement comprising restrictive covenants.  MacLean agreed to the restrictions as part of his initial employment. Both Kelcher and Oliverio agreed to the restrictions during their employment, but did not receive any additional benefits as a result. In March 2005, the three employees were asked to sign more burdensome non-competition and non-solicitation restrictive covenants.  Objecting to these new restrictive covenants, Kelcher resigned and MacLean was fired.  Oliverio signed the new agreement, but resigned shortly thereafter. All three employees joined a rival firm.  In April 2005, Globex filed suit, claiming damages from loss of clients.

The Alberta Court of Queen’s Bench ruled against Globex and held that MacLean had been wrongfully dimissed and was therefore relieved of the restrictive covenants he had consented to.  Further, the Court found that the restrictive covenants were unenforceable as against Kelcher and Oliverio for want of consideration, as the agreements were signed by both employees during the course of their employment, but had received nothing in return.  The Court found that consideration could be present in instances where there is mutual understanding between employer and employee that the employer will not exercise its right to lawfully terminate the employment if the employee agrees to the restrictive covenant; however, the Court found that such mutual understanding did not exist in this case. If such consideration had been present, the Court held that only Kelcher’s non-solicitation clause would have been enforceable because Oliverio’s non-solicitation clause was overly broad and thus unenforceable.

Globex appealed the decision to the Alberta Court of Appeal.  Madam Justice Hunt, writing for the majority, dismissed Globex’s appeal. In so holding, Madam Justice Hunt affirmed the trial court’s ruling that the wrongful dismissal of an employee will render that employee’s restrictive covenants unenforceable. 

Madam Justice Hunt provided a number of legitimate reasons for this longstanding principle of employment law.  The Court said:

Most particularly, to hold otherwise would reward employers for mistreating their employees. For example, an employer could hire a potential competitor, impose a restrictive covenant on the employee, then wrongfully dismiss her a short time later and take advantage of the restrictive covenant. This would be a highly effective, but manifestly unfair, way of reducing competition. A second justification (alluded to by Simon Brown L.J. in Rock Refrigeration) may be that enforcing a restrictive covenant in the face of wrongful termination prima facie negates the consideration (whether continued employment or something else) given by the employer to the employee when she accepted the restrictive covenant.

Madam Justice Hunt also affirmed the trial court’s conclusion that some fresh consideration must be provided by the employer when employees accept restrictive covenants during their employment.

In order for an employer to validly enforce a restrictive covenant against a departing employee, the Alberta Court of Appeal held that three criteria would have to be met.  First, the restrictive covenant has to be reasonable with respect to the geographic scope, length of time and the activity that is restricted.  Second, an employee must be dismissed either with cause or notice or, alternatively, the employee must have resigned. Third, if the employer imposes a more stringent restrictive covenant during the course of employment, the employer must provide fresh consideration such as a raise or bonus. Alternatively, there must be some understanding that the employment would continue as a result of the employee agreeing to the addition or amendment of the restrictive covenant.

This case provides a useful guide with respect to the factors a court will look at when determining the enforceability of restrictive covenants in employment agreements.


[1] 2011 ABCA 240

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Dan Parlow
Tuesday, January 18th, 2011    Posted by Dan Parlow (posts)
Dan Parlow
Dan is a partner at the firm of Kornfeld LLP. He helps resolve commercial disputes for clients including investors, brokerage houses and financial institutions in the realization of claims by creditors and over disputed investments; entrepreneurs in claims over business assets, shareholder and partnership interests and commercial property; estates, trusts and beneficiaries over disputed wills, trusts and related claims; clients of realtors, lawyers, accountants, brokers and investment advisors; and businesses in the telecom, oil & gas and high-tech industries.

On January 10, 2011, the British Columbia Securities Commission (the “Commission”) overturned the proxy solicitation process employed by the Mutual Fund Dealers Association of Canada (MFDA) in connection with a special meeting of its members.  It is a rare case in which the governance standards of a self-regulated organization were subjected to review by a higher authority, and ironic given the MFDA’s role as regulator of the operations, standards of practice and business conduct of its member-dealers.  The MFDA’s mandate is “to enhance investor protection and strengthen public confidence in the Canadian mutual fund industry.”

The case involved a proposal to alter MFDA’s by-laws respecting the length of terms of directorship (“Proposal”). BCSC panel directed the MFDA to cease improperly soliciting proxies regarding a pending and controversial vote.

The Proposal

The Proposal was written by a four-person task force including two sitting directors whose very continuation in office was contingent upon approval of the proposal, giving rise to an inherent appearance of self-interest.

Although the task force believed that the proposal was supported by a “significant majority” of its members, they worried that they were at risk of defeat by a minority of opposed members who could prevent approval if the attendance at the meeting was low.  To mitigate this risk, the MFDA contacted members and asked them their opinions about the proposal, and offered them the opportunity, in the event they could not be present, to provide a proxy in favour of an MFDA director supportive of the Proposal.  However, no alternate or non-director proxy was offered.

The conflict of interest was refuted by the MFDA saying they acted with the “sincere intention of encouraging member participation in an important process and with absolutely no intention of pressuring any member.   However, the Commission appeared to doubt this intention, noting the MFDA’s failure to contact known opponents to the proposal.

Managing the Potential Conflict

The Commission drew a clear distinction between the proxy solicitation process among corporations and regulators. A shareholder of a corporation is entitled to vote arbitrarily, motivated only by self-interest.   However, it was held that the very relationship between the MFDA and a member creates an “inherent and foreseeable” risk that the member may feel pressure to vote in favour of management-sponsored resolutions if MFDA directors are involved in the proxy solicitation process.

In holding that this process would have led an objective observer to question the integrity and credibility of the MFDA, the Commission directed that any proxy solicitation be conducted through independent proxy solicitation service providers. Further, the Commission directed that the MFDA board’s role should be limited to ensuring that this independent process is appropriate and is being followed; and directed that MFDA members’ votes be kept confidential from its officials.

MFDA as SRO

In its judgment, the Commission panel did praise the MFDA as an effective and credible regulator of mutual fund dealers generally, and emphasized that despite this finding on a narrow internal governance issue it was “not making any adverse findings about the MFDA’s overall integrity or credibility as” a self-regulatory organization.

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Dan Parlow
Thursday, April 8th, 2010    Posted by Dan Parlow (posts)
Dan Parlow
Dan is a partner at the firm of Kornfeld LLP. He helps resolve commercial disputes for clients including investors, brokerage houses and financial institutions in the realization of claims by creditors and over disputed investments; entrepreneurs in claims over business assets, shareholder and partnership interests and commercial property; estates, trusts and beneficiaries over disputed wills, trusts and related claims; clients of realtors, lawyers, accountants, brokers and investment advisors; and businesses in the telecom, oil & gas and high-tech industries.

This is the fourth and final post in a series of posts on this subject. The full version of the article was published by the Institute of Corporate Directors in its Journal and and as a web resource.

Bad Faith and Self-Dealing

I would not allow corporations to exonerate directors in the event of bad faith, self-dealing or other instances of non-loyalty.

In the event the directors’ action is challenged, it will be the court’s job to determine whether the board’s decision was in fact taken disloyally.  This may involve review of the substance of a business decision made by an apparently well motivated board for the limited purpose of assessing whether that decision is so far beyond the bound of reasonable judgment that it seems essentially inexplicable on any ground other than bad faith.  Delaware law shows that the courts are capable of making a reasoned distinction.

In the event of a conflict of interest, directors’ approval of a transaction can be set aside even where it had been subsequently approved by the shareholders after the conflicts of interest were disclosed.  Directors in such a case would be obliged to prove that the shareholders were fully informed and that the process was transparent in all respects.

As discussed in the Delaware Disney litigation involving its former president, Michael Ovitz, a “failure to act in good faith may be shown, for instance, where the fiduciary intentionally acts with a purpose other than that of advancing the best interests of the corporation, where the fiduciary acts with the intent to violate applicable positive law, or where the fiduciary intentionally fails to act in the face of a known duty to act, demonstrating a conscious disregard for his duties.”

A good example of a gross negligence claim without a bad faith component is seen in the proposed sale of the Lear Corporation: Lear Corporate Shareholder Litigation. A deal was struck with a potential suitor under which he would increase his offer by some $90,000,000 on the condition that the company pay him a $25,000,000 termination fee if the shareholders voted “no”. After the deal was rejected and the termination fee was paid, the plaintiffs alleged that the transaction was entered into in bad faith in that it had been a virtual certainty that the offer would be rejected by shareholders.  The Court once against struck the lawsuit because there were no facts indicating that the directors consciously acted in a manner contrary to the interests of Lear and its stockholders.

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Dan Parlow
Thursday, March 11th, 2010    Posted by Dan Parlow (posts)
Dan Parlow
Dan is a partner at the firm of Kornfeld LLP. He helps resolve commercial disputes for clients including investors, brokerage houses and financial institutions in the realization of claims by creditors and over disputed investments; entrepreneurs in claims over business assets, shareholder and partnership interests and commercial property; estates, trusts and beneficiaries over disputed wills, trusts and related claims; clients of realtors, lawyers, accountants, brokers and investment advisors; and businesses in the telecom, oil & gas and high-tech industries.

This is the third in a series of posts on this subject. The full version of the article was published by the Institute of Corporate Directors in its Journal and and as a web resource.

Encouraging Risk-Taking

The main purpose of the proposed “Charter Option” – empowering corporations to limit director liability –  is to make it easier for corporations to attract directors who would otherwise be deterred by the prospect of personal liability.   As noted earlier, the Charter Option would only exculpate directors who have acted in good faith, loyally and without self-interest.

The encouragement of corporate risk-taking has traditionally been supported by English law. In one famous case, Re City Equitable Fire Insurance, the court pointed to three reasons for exculpating directors:

(i) a director need not exhibit a greater deal of skill than may reasonably be expected from a person of his knowledge and experience;

(ii) a director is not liable for errors in business judgment, as his primary function is to use his own particular talents in advocating corporate risk-taking; and

(iii) a director is not bound to give continuous attention to the affairs of the corporation.  In the absence of grounds for suspicion, eh is fully justified in trusting corporate officials to be honest.

As noted by former Delaware Chief Justice Veasey, the effect of the Delaware provision is that derivative due care claims seeking personal liability of directors can normally be dismissed at an early stage without the need for a trial.  He notes that the law is “designed … to protect directors and to encourage qualified personals to act as directors” … and that it is “very much in the stockholders’ interest that the law not encourage directors to be risk averse.  Some opportunities offer the prospect of great profit at the risk of very substantial loss, while the alternatives offer less risk of loss but also less potential profit.”

In one takeover case, J.P. Stevens & Co. Stockholders Litigation, the Delaware Court of Chancery noted that “there is great social utility in encouraging the allocation of assets and the evaluation and assumption of economic risk by those with … skill and information.”  Accordingly, “courts have long been reluctant to second-guess such decisions when they appear to have been made in good faith.”

Fostering Economic Activity by Attracting Directors

It is in the interest of Canada’s continued prosperity to attract the best people possible to oversee adn direct management of our corporations.

In her book entitled Corporate Governance, Professor Christine A. Mallin noted that “in general, small and medium-sized firms will have simpler corporate governance structures than large firms…; a small number of non-executive directors (NEDs); a combined chair/CEO; longer contractual terms for directors due to the more difficult labour market for director appointments into small and medium-sized companies.”

The role and importance of NEDs was emphasised in the Cadbury Report (1992) and in the Code of Best Practice in the U.K. that NEDs “should bring an independent judgment to bear on issues of strategy, performance, resources, including key appointments, and standards of conduct” (para. 2.1).  Similarly, the Hampel Report (1998), also from the U.K. stated: “Some smaller companies have claimed that they cannot find a sufficient number of independent non-executive directors of suitable calibre.  This is a real difficulty, but the need for a robust independent voice on the board is as strong in smaller comapnies as in large ones” (para. 3.10).

It is human nature for a prospective director to be averse to serving if he or she will face personal liability for honest decisions made while serving on a board.  On the other hand, directors will understand that they owe a duty to act loyally and without self-interest; they will understand that the law cannot, and will not, protect them should they act otherwise.

In particular, small business, which accounted, as of 2004, for half of all private sector employment in Canada, may consider the Charter Option to be especially helpful both in attracting quality directorial candidates and in reducing or eliminating the need for director and officer insurance which is often disproportionately expensive and difficult to obtain, if available to them at all.

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Dan Parlow
Tuesday, January 19th, 2010    Posted by Dan Parlow (posts)
Dan Parlow
Dan is a partner at the firm of Kornfeld LLP. He helps resolve commercial disputes for clients including investors, brokerage houses and financial institutions in the realization of claims by creditors and over disputed investments; entrepreneurs in claims over business assets, shareholder and partnership interests and commercial property; estates, trusts and beneficiaries over disputed wills, trusts and related claims; clients of realtors, lawyers, accountants, brokers and investment advisors; and businesses in the telecom, oil & gas and high-tech industries.

This is the second in a series of posts on this subject.  The full version of the article was published by the Institute of Corporate Directors in its Journal and and as a web resource.

The mood prevailing upon enactment of Canada’s contemporary corporate law was to make directors more, rather than less, accountable in the exercise of the duty of care.

The Canada Business Corporations Act (CBCA) was based in large part upon the recommendations of a 1971 Dickerson Report which proposed a duty of care that was stricter than that then prevailing duty:
Recent experience has demonstrated how low the prevailing legal standard of care for directors is, and we have sought to raise it significantly.

An enhanced duty of care was ultimately enshrined in the CBCA.

Several objections to the Delaware model have been made by observers. An initial object to limited director liability, as raised in the Dickerson report, was that it gives rise to “a steady supply of marginally competent people” to serve as directors. However, despite over twenty years of legal history in the U.S., I have seen no facts to support this opinion.

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