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Not Missing the Sino-Forest for the Trees: ONCA upholds auditor’s $117 million settlement despite objections from institutional investors over opt-out rights


Written by on July 18th, 2013

Jason Squire

Partner, Deputy Leader, Class Actions Practice Group 

In Labourers’ Pension Fund of Central and Eastern Canada v Sino-Forest Corporation, 2013 ONCA 456, the Ontario Court of Appeal recently dismissed a motion by a group of institutional investors that challenged the approval of a $117 million settlement releasing Ernst and Young LLP from any claims arising from its alleged negligent auditing of the forestry firm Sino-Forest (“SFC”).

As a member of our Class Action Group has previously discussed, the lower court’s decision in this matter suggests that institutional investors may want to take a more active role in securities class actions in Canada, by exercising their opt-out rights and pursuing individual claims. The Ernst and Young settlement, however, made it more difficult for activist investors in that case to do just that.

Ernst & Young was named as a co-defendant in a $9.18 billion class action lawsuit filed by investors in Ontario, after a report released in 2011 alleged that SFC was a Ponzi scheme. As we have previously reported, this action was stayed after SFC sought and obtained protection under the Companies’ Creditors Arrangement Act (“CCAA”).

The Ernst and Young settlement was publicly announced in 2012 and is part of SFC’s plan of compromise and reorganization (“The Plan”) under the CCAA. Both received widespread support, except from Invesco, a group of institutional investors holding 1.6% of SFC’s outstanding shares.

The settlement was initially approved by Justice Morawetz of the Ontario Superior Court despite objections from Invesco that the release was unnecessary to the success of SFC’s restructuring.  The settlement included a comprehensive release (or “bar order”) in favour of Ernst & Young, which would prevent class plaintiffs from opting out of the class proceeding, and pursuing their own claims against Ernst and Young. Justice Morawetz held that the settlement was fair and reasonable, provided substantial benefits to other stakeholders, and was consistent with the purpose and spirit of the CCCA.

The Ontario Court of Appeal upheld the decision. The Court agreed with Justice Morawetz’s conclusion that there was a reasonable connection between Invesco’s compromised claim and the restructuring achieved by including the release, as indicated by the following factors from ATB Financial:

  1. The release was rationally related to the purpose of the Plan since Invesco’s claims against Ernst & Young could not be separated from those made against SFC.
  2. The release was necessary to fulfill the objectives of the Plan, since, without settlement approval, the settlement proceeds would not be distributed.
  3. Ernst and Young was contributing to the Plan in a tangible and realistic way in the amount of $117 million and;
  4. The creditors would benefit from the tangible distribution of those monies.

Normally, class members can opt-out of a class action “in the manner and within the time specified in the certification order.” However, the Ontario Court of Appeal makes clear that there is no right to opt-out of a CCAA proceeding. If, as in this case, a claim class proceeding is linked to a CCAA proceeding, and the above factors are met, courts are willing to approve settlements over the objections of activist investors.

The content contained in these blogs is intended to provide information about the subject matter and is not intended as legal advice.  If you would like further information or advice on any of the subjects discussed in a blog post, please contact the author.