Written by Nicholas P. Fader, Jon C. Truswell and Adrienne E. Roy
The Alberta Securities Commission (ASC) has applied to the Supreme Court of Canada for leave to appeal the August 2014 decision of the Alberta Court of Appeal (Court) in Walton v Alberta (Securities Commission), 2014 ABCA 723 – a decision that has generated considerable legal and media attention. In Walton, the Court overturned various ASC rulings with respect to the insider trading, tipping and recommending/encouraging provisions of the Securities Act (Alberta). The focal points of the ASC's leave application concern the evidence necessary to prove allegations of illegal insider trading, tipping and recommending/encouraging, and the sanctions that may be imposed by the ASC on persons found to have engaged in such conduct. Commentators have suggested that, if the Court's decision in Walton stands, the ASC's ability to prosecute future insider trading cases will be adversely affected, particularly where an individual is alleged to have recommended that another person purchase or sell securities or encouraged that person to do so.
The proceedings in Walton arose out of the takeover of Eveready Inc. by Clean Harbors Inc. in July 2009. At the time, Eveready was a reporting issuer whose shares were listed on the Toronto Stock Exchange. By late 2008, Eveready's share price had declined significantly from prior highs, leading Clean Harbors to initiate discussions with Eveready personnel concerning a business combination (in late October 2008) and ultimately make a proposal to acquire Eveready (in April 2009).
Bert Holtby became aware of the Eveready/Clean Harbors discussions in his capacity as a director of Eveready. The ASC determined that those discussions represented a "material fact" for purposes of the Securities Act and Holtby made improper use of this material non-public information by:
- trading in shares of Eveready;
- tipping others, who also traded Eveready shares; and
- encouraging others to trade.
In total, the ASC determined that five individuals had engaged in illegal insider trading, tipping or recommending/encouraging (or a combination of those offenses). The sanctions imposed by the ASC included trading bans, disgorgement of profits and administrative monetary penalties ranging from $55,000 to $1.75 million.
The Court overturned the ASC's findings of culpability with respect to three individuals and ordered that the sanctions imposed on two individuals, including Holtby, be remitted to the ASC for reconsideration. In reaching its conclusions, the Court determined that:
- the ASC interpreted the prohibition on recommending/encouraging under section 147(3.1) (now section 147(5)) of the Securities Act unreasonably;
- the evidence considered by the ASC was inadequate to support certain conclusions reached; and
- certain sanctions imposed by the ASC lacked justification, transparency and intelligibility.
The Interpretation of the Securities Act
The Court acknowledged that the ASC is an expert tribunal and is entitled to deference in interpreting its "home" statute. Accordingly, determinations made by the ASC in that regard should not be overturned on appeal unless they are unreasonable.
Section 147(3.1) of the Securities Act provides that it is illegal to recommend or encourage others to trade in securities of an issuer before a material fact concerning that issuer is generally disclosed. The ASC determined that it was not necessary to demonstrate a person knew or intended that the recipient of information would trade in securities of the issuer in order to prove a violation of section 147(3.1) of the Securities Act. The Court reversed this finding, holding that to run afoul of the prohibition against "recommending or encouraging", an individual must have both knowledge of a material fact and an intention to convey information, knowing it is likely that the recipient will rely on that information (by purchasing or selling securities). Generic positive statements about an issuer, for example, will generally not give rise to a violation of section 147(3.1) of the Securities Act. The Court allowed the appeal of two of the appellants, including Holtby, who were found to have engaged in improper recommending/encouraging, on the basis the evidentiary record did not support a conclusion that they conveyed information with the expectation that the recipient would use that information to trade in Eveready shares.
Standard of Proof and Evidence
The Court and the ASC both acknowledged that it is often only possible to prove illegal insider trading with reference to circumstantial evidence, and the Court agreed that the ASC may, in appropriate circumstances, determine that a person has engaged in illegal insider trading based upon that person's conduct and trading activity, for example. Factual determinations made by the ASC in that regard are also entitled to deference and should not be overruled on appeal unless they demonstrate palpable and overriding error. The Court also agreed with the ASC that clear and cogent evidence was required to support a determination of illegal insider trading; however, it concluded that various factual inferences drawn by the ASC (the content of certain conversations, for example) represented mere speculation or conjecture and were, accordingly, unreasonable. In circumstances where an individual, who has only a limited investing history in large dividend paying securities, for example, purchases a significant number of shares of a junior reporting issuer the day after a social conversation with a senior officer of that issuer who is involved in confidential takeover negotiations, it may well be reasonable to infer that the purchase was triggered by information imparted during that conversation. However, the same conclusion may not be reasonable in the case of an individual that has an established track record of making large investments in speculative reporting issuers over a period of years (including through the purchase of shares of the issuer in question) and whose purchase of securities occurs a month or two after a social conversation with a corporate officer involved in confidential takeover negotiations.
The Court's decision in Walton does not preclude the use of circumstantial evidence; however, the refusal of the Court to accept certain inferences (that might be considered typical in insider trading cases) drawn by the ASC from the available evidence sets a high standard for the evidence required to support a finding of illegal insider trading, tipping or recommending/encouraging.
Determination of Sanctions
All of the appellants in Walton appealed the sanctions handed down by the ASC on the basis those sanctions were demonstrably unfit in the circumstances. The Court agreed (citing section 20 of Magna Carta en route to its decision).1 It held that sanctions for insider trading are not intended to be directly punitive, but rather are imposed in an effort to protect the capital markets. The Court went on to note that individual and general deterrence are proper considerations in determining an appropriate sanction.
The ASC's most notable sanction was a $1.75-million administrative penalty imposed on Holtby. The Court held that the severity of Holtby's sanction gave rise to concern; in addition, the penalty lacked "the justification, transparency and intelligibility that the decision making requires." (According to the Court, the ASC's reasons for setting the penalty at $1.75 million were expressed at a high level of generality and it was not possible to determine, with precision, what factors were considered by the ASC in arriving at that amount.) The Court then remitted the sanction matter to the ASC for reconsideration, seemingly with an expectation the quantum would be reduced.
The Court's decision in Walton may adversely affect the ASC's ability to successfully pursue insider trading cases in two ways. First, the Court's determination that an individual will only run afoul of the "recommending or encouraging" prohibition in the Securities Act if he/she makes a statement knowing that it will be acted upon by another person (by purchasing or selling securities) adds to the ASC's prosecutorial burden, as it will often be difficult to secure cogent evidence of such knowledge (such as an outright admission of wrongdoing). Second, while the standard of proof remains unchanged, the Court in Walton required a more persuasive evidentiary record to support findings of illegal conduct. Typical indicia of insider trading, such as trading activity, proof of opportunity, motive or a close relationship (that would lead an individual to wish to impart information for the benefit of another), may not be sufficient. Of course, it may be argued that this is entirely appropriate – a conviction for insider trading, tipping or recommending/encouraging will, in all likelihood, have significant repercussions on one's livelihood and reputation, and a conclusion in that regard should only be reached with the benefit of compelling evidence.
The significance of the Court's decision, including the Court's departure from the general jurisprudential trend in deferring to expert tribunals, will result in the appeal (if leave is granted by the Supreme Court of Canada) being closely monitored by securities regulatory authorities in Canada, public markets participants and members of the securities bar.
- Section 20 of the Magna Carta states, "For a trivial offence, a free man shall be fined only in proportion to the degree of his offence, and for a serious offence correspondingly, but not so heavily as to deprive him of his livelihood…"