IBI Group Inc. thought it had found a devious way to force its debenture holders to vote to delay payment on some debentures yielding 7-per-cent interest that were coming due at the end of 2014. That plan failed. And yet, its failure may not be such a bad thing for IBI. It may actually save the company some money in the future.
Last week, a committee owning 30 per cent of these debentures forced IBI to extend the meeting date and offer debenture holders a better deal. Still, the better deal is only a partial win for IBI's debenture holders, as the deal retains its coercive, two-tiered structure. Moreover, the new deal may offer IBI a surprising fringe benefit – protection against future litigation.
From the start, the offer was unappealing. Debenture holders looked forward to redeeming their debentures for principal at the end of the year, as IBI's stock was trading at around $2, well below the $19.17 price that would trigger the debentures' conversion into shares. Not only would the five-year extension IBI proposed have delayed the return of their principal, it would have put the debenture holders behind two other series of convertible debentures that were coming due in 2017 and 2018.
To encourage the debenture holders to accept the deal, IBI offered a "consent fee," but only to those who voted for the extension. Debenture holders who voted "no" would be left holding 7-per-cent convertible debt due in 2019 with no fee and a greatly diminished chance of ever recovering their principal.
Does this sound oppressive to you? I would hazard to say that the IBI debenture holders also found the proposal a touch oppressive. And that's why almost 30 per cent of otherwise-difficult-to-co-ordinate retail investors were able to get together to force IBI to modify its terms. That retail coalition promises to oppose this new proposal. If they lose, the new proposal makes it unlikely that they will be able to find recourse through the "oppression remedy," a broad statutory litigation remedy that gives recourse to oppressed corporate stakeholders.
The oppression remedy is a somewhat unique feature of Canadian corporate law. It lets corporate stakeholders, including creditors, sue even in the absence of a fiduciary duty violation, or a breach of their contractual rights. To win an action for oppression, stakeholders must show the existence of some "reasonable expectation" and they must show that such a reasonable expectation was violated by conduct falling under the terms "oppression," "unfair prejudice" or "unfair disregard."
In the leading case on the oppression remedy, BCE v. 1976 Debentures, the Supreme Court of Canada found that BCE's debenture holders – who had seen the rating of their investment hurt by a plan of arrangement – had a reasonable expectation that "the directors would consider the interests of the bondholders in maintaining the trading value of the debentures." Given the circumstances, a court would likely find that IBI's debenture holders share a similar reasonable expectation.
As to the "unfair disregard" part of the test, unlike in BCE where the contractual terms of the debentures were never at risk, the IBI debenture holders would have had a strong argument that IBI's original proposal disregarded their reasonable expectations in an attempt to coax them into a deal that greatly eroded the value of their investment. While the board did offer a "consent payment," the consent payment still would have left the debenture holders with significantly diminished value. IBI's offer seemed to be about giving debenture holders the bare minimum required to coerce a "yes" vote, not an amount that gave serious weight to the debenture holders' interests.
Is this case a winner at the end of the day? It's hard to tell. But it's not a bad case, and I'll bet that IBI doesn't want to defend it.
The modified proposal makes the case for oppression much more difficult. The BCE decision gives a road map for how to all but guarantee that debenture holders will lose an oppression claim. In essence, a board needs to show that the directors considered the interests of the debenture holders, then used their best business judgment to balance the interests of competing stakeholders in order to do the best thing for the corporation.
A board would demonstrate that it did this by giving debenture holders a lowball offer and responding to the inevitable debenture holder complaints through a subsequent, more generous proposal, perhaps at the expense of a competing stakeholder group. That way, a board could show that it considered the interests of the debenture holders and that it was willing to balance the needs of all stakeholders, but that, in its best business judgment, sacrificing some debenture holder value was what was best for the corporation as a whole.
That's exactly what IBI did. The sweetened deal offers three options: a 19.65-per-cent consent fee for those who take it; a 7-per-cent consent fee plus a $5 conversion price for those who take that (both consent fees are payable in December, 2016); and a $5 conversion price for those who vote down the proposal. The obvious winners are debenture holders who get increased compensation if the deal goes through. Shareholders lose slightly due to the increased risk of dilution. But IBI's board is also a winner; it provides itself with a ready-made defence to a claim of oppression and maintains the coercive nature of the proposal.
It's enough to make you think this was all intentional. Could IBI have foreseen co-ordinated debenture holder opposition to its first offer and planned on using that opposition to insulate itself from future litigation through an improved offer? It's unlikely but not impossible. Still, this goes to show that winners and losers in a negotiation aren't always obvious. IBI may even be better off under the new offer: jilted, coerced debenture holders with a lawsuit are more dangerous to IBI than less jilted, coerced debenture holders without one. A little bit of sugar can stop a lawsuit from going down.