Section 01 – Proxy Season Review

Proxy Contest 07 Overview

Proxy Contest Highlights 11 and Showcase

Key Governance 18 Developments

Concentration on 24 Compensation

Section 02 – Issues on the Horizon

Understanding the Impact of America’s 33 Clampdown on Proxy Advisors

A Gold Rush for 37 Activist Investors

Fall of the Ivory Tower: Why Controlled Companies 38 Are Not Immune From Shareholder Activism

Growing Pains: Navigating the 43 Evolving Cannabis Industry

Section 03 – Our Advice

Paying For the Long Game: A Tale of Shareholders’ 46 Pursuit of Better Alignment – TSR or EVA?

The Growing Science of Bespoke 51 Management Proposals

Rise of the Micro-Activist: How Can Boards of Micro- and 53 Nano-Cap Companies Prepare and Defend With Less?

Board of Rivals: What Boards Can Do to Harness the 57 Energy, Effort, and Passion Activists Bring to the Table

What Boards of Directors Can 60 Learn From the Toronto Raptors

Unless otherwise stated, the source of data used in tables and charts in this report is Kingsdale Advisors, August 15, 2019.

Some percentage charts may not sum to 100% due to rounding.

All dollar figures are expressed in Canadian dollars unless otherwise specified.

Sector data displayed in tables and charts in this report are framed in reference to respective company’s four-digit GICS (Global Industry Classification Standard) Code.

4 | 2019 Proxy Season Review www.kingsdaleadvisors.com SEPTEMBER 2019

e are very pleased to present to you our warranted, and boards need to continue to 2019 Proxy Season Review – an annual invest in relationships with their stakeholders, publication that we take great pride in spend time challenging the company strategy – which includes contributions from our and thesis, and be prepared for the possibility wholeW team based on our observations and first- of confrontation. hand experiences as North America’s leading strategic shareholder advisory firm. Last year, to help directors with exactly this, we identified a number of key issues and made Since Kingsdale’s beginning in 2003, activism predictions to the benefit of our clients: has evolved into a necessary component of a functioning capital market where corporations • We emphasized that passive investing no take investments from outside stakeholders and longer means passive voting. This year, we appoint representatives to steward their capital. continue to see the expansion of in-house While some still view the term “activism” with governance teams at the largest funds, with a negative connotation, the root of activism is custom voting policies designed and refined accountability for actions taken and decisions to reflect underlying client appetites and to made that impact shareholder value. create a competitive advantage. This means proxy advisors ISS and Glass Lewis have In the pages that follow, we present and analyze moved from being considered “vote deciders” the activism statistics that everyone craves: the to data aggregators. wins, the losses, and the change in numbers. But these numbers don’t tell the whole story and • We highlighted the growing number of former may not lead to the certainty that management, insiders and CEOs who launched proxy boards, and shareholders are always trying contests against their own companies. This is to seek out. Why? Because Canada remains a trend that has since continued in 2019, with unique. We are not home to the “activist” funds insider contests launched at five companies like Elliott Management, Trian Partners, Third – four of which were micro- or nano-cap Point, and others whose sole focus is identifying companies. In fact, of the 25 proxy fights undervalued opportunities and dedicating a this year, only four were run by what can be tremendous amount of time and resources to considered traditional activist funds. a potential campaign. Unlike the U.S., Canada is more of a situational marketplace – where • We predicted continued consolidation through any investor at any given time can become M&A activity in the cannabis industry and an “activist” and any company in any sector, warned cannabis company boards about how regardless of size, can become a target. rapid growth had left the industry’s governance practices wanting. This year, there have While we look for patterns and key takeaways been four proxy contests involving cannabis to give us certainty, all we can be sure of is companies and significant governance that shareholders of all types are holding deficiencies publicized. boards and management accountable for performance, from both an operational and While the data on whether activism truly creates governance perspective. These shareholders value is still somewhat inconclusive, what we may include retail investors, institutions or what can conclude is that activism, in whatever form, many used to think of as “passive” accounts. is here to stay. Our advice to companies: Have While there is no telling where the call for the courage both to defend against change when change may come from, should your company’s it may do more harm than good, and to welcome financial performance or actions fall short of change when it demonstrates real advantages. expectations, expect your shareholder base to feel emboldened to force change. We hope you find this report useful as you plan and prepare for the most unexpected challenges. Put another way, activists in Canada are now undefinable, targets are unlimited, and too many We remain on standby, ready to assist when you directors are unsuspecting. Not all change is need us the most.

Best regards,

Wes Hall, ICD.D Amy Freedman Executive Chairman & Founder Chief Executive Officer

www.kingsdaleadvisors.com 2019 Proxy Season Review | 5 6 | 2019 Proxy Season Review www.kingsdaleadvisors.com PROXY CONTEST OVERVIEW

Figure A Number of Proxy Contests in Canada What Counts as 2003–2019 YTD a Proxy Contest? Management Win e take a very Activist Win or Partial Win comprehensive view as TBD to what is considered a Wproxy fight, as only a small number 60 55 of activist actions see a mailed circular and an even smaller number actually go to a meeting. We at Kingsdale consider a proxy 50 fight to have been initiated when 43 44 an activist shareholder (or group of shareholders) in opposition to management makes a public 40 30 filing of its activist intent (through a planted news story or a press 16 32 33 32 release or a 13D), requisitions 30 30 a shareholder meeting, publicly 0 announces an intention to nominate 30 25 11 alternate directors, solicits 25 22 alternative proxies, conducts a 18 21 “vote no” campaign on either 20 17 20 20 10 the election of directors or M&A 15 16 transactions, or announces the 11 intention to launch a hostile 13 28 13 takeover bid, regardless of 6 25 8 9 22 6 whether a vote or the hostile bid 10 8 actually takes place, as long as the 4 6 13 opposition is publicly known. In 13 12 11 12 11 other words, if a shareholder says 4 8 9 9 9 7 it has publicly targeted you, we 2 5 5 0 consider the fight to be on. ‘03 ‘04 ‘05 ‘06 ‘07 ‘08 ‘09 ‘10 ‘11 ‘12 ‘13 ‘14 ‘15 ‘16 ‘17 ‘18 ‘19 - YTD Our proxy contest data captures the campaigns that served as tools to ore than halfway through 2019, their current direction, or execute their drive change for activists seeking there have been 25 public proxy recommended transactions if they run board representation, changing board composition, catalyzing contests launched in Canada, into an activist. changes in strategy or in capital compared to 29 this time last year, allocation, urging a sale or break-up 21 in 2017, 23 in 2016, and 19 in Of the proxy fights that have concluded of the company or other value- M2015. This suggests that, after the second to date, management has won in 60% of enhancing transactions, blocking busiest year on record, activism is on pace cases, down from 64% last year, certainly a board-approved transaction, or to return to its “new normal” in Canada: an making a confrontation with activists making a hostile bid, among other elevated level of shareholder antagonism far from a sure thing. This is roughly dissenting actions. that boards of directors cannot ignore. in line with the average win rate for management over the past three years of Today’s activists are, for the most part, 54%, suggesting that despite continued What Counts as a Win? not the traditional brand name activist attempts to brand activists as short-term or activists seeking board hedge funds you would suspect when extremists with self-serving agendas and representation, an activist win is defined as the activists looking for activism. In 2019, 16 out of underqualified candidates, often from the Fachieving a majority of their the 25 activists were first-timers, ranging U.S., the broader shareholder universe objectives. For example, an activist from traditional long-term investors to has not been swayed and sides with asks for three board seats and current and former insiders to groups of activists almost as often as management. receives two. If an activist receives concerned shareholders with the ability any of its asks, it is considered and drive to organize. On top of this, only Proxy Fight Success Remains Only Slightly a partial win for the activist. four were launched by what would be Better Than a Coin Flip for Management Conversely, a management win means an activist receives nothing. considered traditional activist funds. For In cases of a hostile bid, if the companies, this means that just because target’s board is successful in you don’t have a traditional activist name % fending off the bid or increasing the on your shareholder list doesn’t mean 60 value of the offer and reaching a friendly deal, we consider that a win you are safe from activism. 2019 for management (and shareholders). Directors’ need to remain vigilant is further compounded by the fact that % boards are by no means guaranteed 54 to hang onto their seats, maintain AVG 2017-2019

www.kingsdaleadvisors.com 2019 Proxy Season Review | 7 Figure B 2019 Proxy Contests by Geography Corporate Headquarters Based on Canadian corporate headquarters of target company.

2 Alberta (2) 12 TransAlta Corporation British Columbia (12) 2 Stuart Olson Inc. Acreage Holdings Inc.

Ascent Industries Corp. Quebec (2) 9 Aurinia Pharmaceuticals Inc. Ontario (9) Knight Therapeutics Inc. Core Gold Inc. Cornerstone Capital Resources Inc. Transat A.T. Inc. Cresval Capital Corp. Extendicare Inc. eCobalt Solutions Inc. Eyecarrot Innovations Corp. Eviana Health Corporation Guyana Goldfields Inc. HIVE Blockchain Technologies Ltd. Hudson’s Bay Company Methanex Corporation. Kuuhubb Inc. Namaste Technologies Inc. MDC Partners Inc. Palladium One Mining Inc. Mistango River Resources Inc. Select Sands Corp. Star Navigation Systems Group Ltd. Why Canada Is Returning to the “New Normal” for Activism

The return to a heightened – rather than cannabis companies involved in fights extremely heightened – level of public this year, three – Ascent Industries Corp. activism, or “new normal”, comes as (CSE:ASNT), Eviana Health Corporation the result of a few key factors. First, (CSE:EHC), and Acreage Holdings Inc. generally strong financial and stock (CSE:ACRG.U) – fall under the health care performance across all sectors of sector category while the other, Namaste North American markets have masked Technologies Inc. (TSXV:N), falls into the and bought time for otherwise poor consumer discretionary sector. performers. This period of positive returns is leading to shareholders who, Despite improvement in the overall while they may not be perfectly happy, market and the generally good mood of negotiating behind closed doors is are willing to ride the highs to wait and shareholders, directors should remain the cheapest and fastest way to effect see what happens. cautious as the veil of strong market change. While activists are not afraid performance that masks underlying of a public fight, public activism is As we will discuss in greater detail concerns can only last so long. While not always the goal nor the result later, the sectors with some of the the market may be providing demand- of an interaction with a concerned biggest gains year-to-date also have driven or commodity-priced tailwinds, shareholder. Companies and activists the biggest declines in activism: total if you are underperforming your peers, are finding new ways to work more shareholder returns (TSR) year-to-date shareholders will eventually take constructively behind the scenes to in the materials sector has increased notice. Activists are hiding in the weeds realize what both hope to be value- by 12% while activism has decreased watching for the next opportunity, buying enhancing solutions, while saving public by 42%; TSRs in the energy and real time and accumulating positions as they reputations and corporate funds. Based estate sectors have increased 8% and wait for apparent weaknesses – many of on our deep industry experience, we 19% respectively, while activism in these which they will have already identified – note that only a fraction of potential sectors has decreased by 100% – to zero to become more broadly exposed. proxy fights ever become public. proxy fights – in both sectors. Secondly, both directors and activists Finally, it is important to note that, in Conversely, the only sector to see an increasingly understand the value of recent years, we have seen contest increase in activism this year was health keeping confrontations behind closed activity accelerate again in the fall care, which saw TSR decline by 4%. doors. For the company, where costs and winter as the annual general One of the drivers for this increase was are less of a concern, reputations are meeting (AGM) season gives way to the the growth of activism amongst the at risk and public activism can cause requisitioned meeting season, making cannabis companies, some of which fall a significant distraction. For activists, it clear that the concept of a “proxy into the health care sector. Of the four where costs are more of a concern, season” is a thing of the past.

8 | 2019 Proxy Season Review www.kingsdaleadvisors.com Figure C No Such Thing as Activist Season: Number of Proxy Contests Initiated by Month 2018 2019 10

6

4

2 Number of Proy Contests 0 AN FEB MAR APR MA UN UL AUG SEPT OCT NOV DEC

Typically, activists will not requisition a attempts to work constructively with Based on these trends we again expect meeting until sufficient time has elapsed a company before mounting a proxy activity to accelerate in late 2019. after the AGM. After receiving a meeting campaign and that shareholders can Interestingly, we note that over the past requisition, companies have 21 days to sometimes be leveraged to help negotiate four years, we have seen hostile bids respond, and can delay a meeting for a or pressure for settlements. Consequently, launched in the final weeks of the year by prolonged period, sometimes as long as activists are starting to lay down tracks Suncor Energy Inc. (TSX:SU), Chemtrade four to five months. Activists have also well ahead of a company’s 2020 AGM to Logistics Income Fund (TSX:CHE.UN), realized that institutional shareholders show they have tried very hard to work Aurora Cannabis Inc. (TSX:ACB), and prefer to see a long track record of with the company. Green Growth Brands Inc. (CSE:GGB).

Figure D Number of Proxy Fights by Sector 2019 2018 2017

1 17 16 14 13 12

10 9

7 7

Number of Proxy of FightsNumber 6 4 4 4 4 3 3 3 3 3 2 2 2 2 2 2 2 2 2 1 1 1 1 0 0 0 0 0 0

Utilities Energy Staples Materials Consumer Financials Consumer Health Care InformationTechnology Industrials Real Estate Discretionary Sector

SECTOR WIN RATE ANALYSIS 2019 2018 2017 SECTOR MANAGEMENT ACTIVIST WIN/ MANAGEMENT ACTIVIST WIN/ MANAGEMENT ACTIVIST WIN/ WIN PARTIAL WIN WIN PARTIAL WIN WIN PARTIAL WIN Consumer Discretionary 100% 0% 25% 75% 67% 33% Industrials 100% 0% 50% 50% 100% 0% Consumer Staples nil nil nil nil 0% 100% Health Care 60% 40% 50% 50% 100% 0% Financials nil nil 50% 50% 50% 50% Information Technology 0% 100% 75% 25% 0% 100% Telecommunication Services nil nil nil nil nil nil Utilities 100% 0% 67% 33% 100% 0% Energy nil nil 100% 0% 50% 50% Materials 40% 60% 65% 35% 20% 80% Real Estate nil nil 33% 67% 33% 67%

www.kingsdaleadvisors.com 2019 Proxy Season Review | 9 Most-Active Sectors: Historical Analysis YEARLY INDUSTRY CONTEST TOTALS Sector 2019 2018 2017 2016 2015 2014 2013 2012 2011 Total Consumer Discretionary 4 4 3 2 2 2 1 2 2 22 Industrials 2 2 1 2 1 2 2 3 1 16 Consumer Staples 0 0 1 1 1 1 0 0 3 7 Health Care 7 2 2 1 3 0 1 1 0 17 Financials 0 2 2 3 5 4 1 0 2 19 Information Technology 2 4 4 3 4 0 1 2 3 23 Telecommunication Services 0 0 0 0 2 0 0 2 0 4 Utilities 1 3 1 0 1 1 0 1 0 8 Energy 0 7 2 5 15 7 8 3 1 48 Materials 9 17 13 16 23 13 17 16 10 134 Real Estate 0 3 3 0 0 0 0 0 0 6 Total 25 44 32 33 57 30 31 30 22 304 What’s the Same This Year? Once again, the materials sector is the The battle ultimately ended in a settlement a $750 million investment from Brookfield most active for proxy battles in Canada, agreement, with M&G receiving one board Renewable Partners (TSX:BEP.UN). reflecting the large number of resource seat at the meeting, and an additional seat Mangrove and Bluescape petitioned companies listed on the TSX. being mutually agreed to through future securities regulators to stop the board refreshment. transaction and announced their intention One of the most highly publicized to nominate five activist nominees fights in this sector was launched by Another high profile proxy battle this year for election at the company’s AGM. M&G Investments against Methanex was at TransAlta Corporation (TSX:TA) Ultimately, Mangrove and Bluescape did Corporation (TSX:MX) – M&G’s first proxy which falls into the utilities sector. That not end up soliciting proxies, and all of fight. M&G asked for four of 11 board seats proxy contest was launched by Mangrove the company’s nominees were elected to and argued against Methanex’s capital Partners and Bluescape Energy Partners, the board at the AGM. spending strategy, specifically against a which owned 10% of TransAlta’s shares, new processing plant under consideration. on the same day the company announced What’s New This Year? In 2019, the health care sector garnered were elected and, embarrassingly, Mr. environmental issues, and the continued increased attention, with seven Jakobsohn himself was not re-elected and deterioration of the balance sheet position companies engaged in proxy battles, the shareholder proposal was defeated. of many energy companies, a potential including notably Knight Therapeutics activist’s ability to identify viable methods Inc. (TSX:GUD). Meanwhile, the energy industry, a sector to turn energy sector companies around is with a long history of shareholder activism, significantly impeded. At Knight Therapeutics, disgruntled has yet to see a public proxy fight in director Meir Jakobsohn (through his 2019. We view the decline as a result of An activist’s ultimate goal is still to pursue private company, Medison Biotech Ltd.) the continued depression of oil prices a strategy that maximizes shareholder sought six of seven board seats and compared to five years ago, when activists value. Activists may not be willing a more aggressive capital spending thought there was more opportunity to deploy capital in a sector where strategy. Mr. Jakobsohn also introduced in the space, and an indication many companies are significantly levered to a shareholder proposal designed to would-be activists have learned a lesson continually depressed oil prices and their remove founder and CEO Jonathan about targeting a company in an industry share price is based predominantly on Goodman from the company (a tactic we with significant structural challenges. the commodity cycle – there are few to no discuss further on page 22). Ultimately, Given the volatility of oil prices, political pathways to success. all of management’s director nominees risk associated with pipelines and Figure E Most Active Sectors Trend Analysis (as a percentage of total proxy fights by year) Energy Materials Health Other

36% 16% 6% 15% 27% 28% 36% 41% 48% 36% 36% 5% 6% 3% 5% 43% 47% 33% 32% 2019 201 2017 2016 2015

10 | 2019 Proxy Season Review www.kingsdaleadvisors.com PROXY CONTEST HIGHLIGHTS AND SHOWCASE Activist Slate Types Over the past decade, Kingsdale has been tracking the number of times an activist in a board-related fight has put forward a majority slate versus minority slate. This year, we witnessed the highest proportion of minority slates since 2015, while majority slates were still the most common ask.

Figure F Activist Slate Types (as a percentage of board-related proxy fights) Majority Minority

62% 76% 77% 71% 56% 38% 24% 23% 29% 44% 2019 201 2017 2016 2015

68% 81% 76% 89% 73% 32% 19% 24% 11% 27% 2014 201 2012 2011 Average 2011Present

Deciding which slate type to use is Figure G pivotal to an activist’s strategy. In cases where there is a large institutional Relationship Between Activist Slate Type and Activist Win (as a percentage of instances where each slate type was used) shareholder base, activists need to consider the proxy advisory firms’ Majority frameworks when building their slates. Minority For example, a majority slate will require 100% 100% a detailed activist business plan as 100% well as a management transition plan, 90% % whereas a minority slate will require a 0% 0% 77% 75% less stringent threshold. 6% 70% 65% 65% 60% On numerous occasions, we’ve also 60% 50% observed that, as a starting point, an 50% 47% 4% activist will request the majority of the 6% 40% % % available board seats and then reduce 0% that number as the proxy contest 20% 17% progresses, especially if a settlement 20% option is available. 10% 0% Historically, activists have had greater 2011 2012 201 2014 2015 2016 2017 201 2019 success when using a minority slate. (We note this year’s data is somewhat skewed as there are only two concluded instances where a majority slate was used. The others remain outstanding.)

www.kingsdaleadvisors.com 2019 Proxy Season Review | 11 Board- vs. Transaction-Related Proxy Contest Count Consistently, over the past five years, the finances of a company may be board-related proxy contests have through first replacing the board. remained the most common form of activism. In 2019, 64% of the public In 2019, we saw seven activist campaigns proxy battles in Canada were built on a launched against or for a transaction (i.e. demand for board representation and/or a hostile bid). Over the past five years, removal of directors or officers. companies in the materials and energy sectors have been the prime targets for The consistent proclivity towards board- transaction activists. related fights is, in part, due to the recognition by activists that the easiest path to forcing a transaction or improving

Figure H Activist Objectives Board-Related (including campaigns that seek both board changes and transactions) Transaction-Related Only Other

28% 18% 25% 64% 31% 9% 36% 52% 8% 9% 73% 69% 66% 12%

2019 201 2017 2016 2015

Note: “Board-related” contests represent the following campaign types: board control and representation, remove director(s), and remove officer(s). “Transaction-related” contests represent only vote/activism against a transaction, excluding campaigns that seek for both transaction and board changes. “Other” contests include withhold campaigns and other campaigns seeking to enhance corporate governance and maximize shareholder value.

Figure I Win Rates in Transaction-Related Proxy Contests Management Win Rate Activist Win Rate

25% 33% 37% 100% 53% 47% 67% 63% 75%

2019 201 2017 2016 2015

12 | 2019 Proxy Season Review www.kingsdaleadvisors.com Settlements Outpace Votes

2019 was the first year in the past five The jump in settlements comes as a result that the proportion of public proxy of boards increasingly recognizing the battles ending with a settlement was financial and reputational damage that greater than the number of contests proxy contests can cause, and becoming going to a vote. It is important to note, more open to change and less willing to however, that our numbers only track blindly go along with underperforming announced contests and settlements, with management. Importantly, we note that many other settlements being reached directors are more inclined to settle with quietly behind closed doors, which would an activist if they think a shareholder vote drive this number even higher. might produce a worse outcome.

This year, settlements were reached in the following contests: • Ascent Industries Corp. (CSE:ASNT) • Extendicare Inc. (TSX:EXE) • Guyana Goldfields Inc. (TSX:GUY) • Kuuhubb Inc. (TSXV:KUU) • MDC Partners Inc. (NASDAQ:MDCA) • Methanex Corporation (TSX:MX) • Namaste Technologies Inc. (TSXV:N) • Palladium One Mining Inc. (TSXV:PDM)

Figure J Proportion of Contests Ending in a Settlement vs. Vote Settlement Vote 100%

0%

60%

40%

20%

0% 2015 2016 2017 201 2019

www.kingsdaleadvisors.com 2019 Proxy Season Review | 13 Institutional Investors – Whose Side Are They On?

It used to be that, in contested situations, we could expect the top investment funds to automatically support management. In recent years, however, we’ve noticed that, increasingly, investment funds are supporting activists.

While detailed statistics for Canada are not available, we thought it would be useful to note that in 2019, the top 100 investment managers globally voted for management approximately 58% of time. Notably, of the 40% who chose to support the activists, roughly about half supported the entire activist slate.

TOP 100 GLOBAL INVESTMENT MANAGERS’ VOTING RECORDS Investment Total Number Number of Meetings Number of Meetings Number of Meetings Voted with Voted Partially Voted All Managers of Meetings Voted with Management Voted Partially with Activist Voted All Activist Management (%) with Activist (%) Activist (%) Top 10 1,753 1,171 321 261 66.80% 18.31% 14.89% Top 25 3,623 2,219 784 620 61.25% 21.64% 17.11% Top 50 5,908 3,436 1,380 1,092 58.16% 23.36% 18.48% Top 100 8,868 5,114 2,081 1,673 57.67% 23.47% 18.87%

Source: Proxy Insight Insiders as Activists In 2018, we wrote about a growing trend of activist campaigns launched by former insiders – a trend that continues in 2019. These events represent unique challenges for issuers, given that former insiders have access to information and relationships that an outside activist would not, including the identity of shareholders as well as operational and financial knowledge. This year, we’ve seen five contests launched by former insiders and founders: • Core Gold Inc. ACTIVIST WIN Director and former CEO Keith Piggott against Core Gold Inc. • Knight Therapeutics Inc. MANAGEMENT WIN Medison Biotech Ltd. (controlled by Director Meir Jakobsohn) against Knight Therapeutics Inc. • Namaste Technologies Inc. MANAGEMENT WIN Former CEO Sean Dollinger against Namaste Technologies Inc. • Palladium One Mining Inc. (formerly Nickel One Resources) ACTIVIST WIN VP, Exploration, and Director Scott Jobin-Bevans, Director Ray Strafehl, former President, CEO, and Director Vance Loeber, CFO Robert Scott, and others against Palladium One Mining Inc. • Guyana Goldfields Inc. ACTIVIST WIN Former CEO and Chairman Patrick Sheridan and a group of concerned shareholders against Guyana Goldfields Inc.

14 | 2019 Proxy Season Review www.kingsdaleadvisors.com The Costs of Activism

One of the most frequent questions we The good news is transparency does hear at Kingsdale is, “How much do seem to be on the rise, with eight cases proxy fights cost?” While the answer of disclosure from 44 public proxy fights includes a heavy dose of “it depends in 2018, compared to three cases of on a variety of factors”, we can provide disclosure following 32 public fights some historical guidance (with the caveat in 2017. that disclosure is scant on an absolute basis, and the lack of associated While the largest companies, namely regulation or rules regarding Detour Gold Corp. (TSX:DGC) and Granite transparency prevents sophisticated Real Estate Investment Trust (TSX:GRT.UN), data gathering and analysis). spent the most money (in terms of dollars) on their respective fights, the It’s important to note that proxy fight lower market cap companies, such as expenses are not just limited to advisor Glance Technologies Inc. (CSE:GET) and and lawyer fees, but include significant GrowMax Resources Corp. (TSXV:GRO), hidden fees including those for spent proportionally more. intermediaries and for printing and mailing circulars and other shareholder materials Based on these disclosures, however, during the course of a campaign. even the highest-profile proxy fights in Canada don’t compare to what we see in Disclosure related to activist interactions the U.S. Detour Gold, with a market cap is not standardized – companies do of approximately $2 billion, for example, not highlight these costs uniformly, and recorded an expense approaching may provide them through any number $20 million. By comparison, Proctor of documents, including: management & Gamble Co. (NYSE:PG) predicted discussion and analysis forms or letters, expenses that approached US$100 annual information forms, and interim million for its 2017 proxy fight, a large or annual financial statements. Based amount of money even considering on our analysis of companies where we Proctor & Gamble’s significantly higher know an activist interaction occurred, market cap of US$230 billion. costs associated with proxy fights typically remain unstated, or are bundled with administrative, advisory, or general expenses.

PROXY FIGHT COSTS BY MARKET CAP *(based on public disclosure) YEAR COMPANY MARKET CAP FIGHT COSTS 2017 Granite REIT (TSX:GRT.UN) $ 2,418M $ 5,866,000 2018 Detour Gold Corp. (TSX:DGC) $ 2,069M $ 19,800,000 2018 DIRTT Environmental Solutions Ltd. (TSX:DRT) $ 417M $ 2,700,000 2018 Guyana Goldfields Inc. (TSX:GUY) $ 278M $ 2,068,000 2018 DavidsTea Inc. (NASDAQ:DTEA) $ 125M $ 3,593,000 2017 Espial Group Inc. (Acquired by Enghouse System Ltd. (TSX:ENGH)) $ 86M $ 677,897 2018 Glance Technologies Inc. (CNSX:GET) $ 84M $ 1,451,712 2018 GrowMax Resources Corp. (CVE:GRO) $ 24M $ 1,908,000 2018 Synex International Inc. (TSX:SXI) $ 16M $ 350,000 2017 Rapier Gold Inc. (Acquired by GFG Resources Inc. (CVE:GFG)) $ 9M $ 841,115

*As of date proxy fight was launched

www.kingsdaleadvisors.com 2019 Proxy Season Review | 15 The Rise of the Universal Proxy Notable Universal Proxy Examples In Canada, 2019 and 2018 have been This year we also saw the first successful Waterton Global Resource Management vs. record years for the use of universal use of a universal proxy by an activist Hudbay Minerals Inc. proxies – proxy ballots that include all in the U.S. in the contest between EQT In Waterton Global Resource Management’s management and activist nominees listed Corporation (NYSE:EQT) and the Rice proxy contest to gain ten, later reduced to four, on the same card. group of shareholders. EQT agreed to board seats on Hudbay Minerals’ board, Waterton use a universal ballot in response to used a universal proxy card while Hudbay used a blended card, which included their nominees and This year, we saw four instances of a a lawsuit by the activist to prevent the only two Waterton nominees. universal proxy being used in three company from unfairly using the activist’s battles (both Methanex and M&G used nominees’ consents to place some, but For activists like Waterton, who were seeking minority representation on a board, using a a universal proxy). In the two instances not all nominees, on the company ballot. universal proxy gave them the advantage of being that went to a vote (Knight Therapeutics Rice matched this tactic by adopting a able to target specific incumbent directors while, and Aurinia Pharmaceuticals (TSX:AUP)), universal proxy of its own, with the only at the same time, garnering the support of the the activist using the universal proxy difference between the two cards being proxy advisors. In Waterton’s case, both ISS and lost. While there are numerous factors how each highlighted the way each side Glass Lewis recommended that shareholders that can affect an outcome, as the chart wanted shareholders to vote. In the end, vote on Waterton’s universal proxy, not Hudbay’s blended proxy. The contest was eventually settled below indicates, there is no immediate a board of 12 was elected including Rice’s with three of Waterton’s nominees added to the correlation between the type of ballot and seven nominees as well as five supported board and a commitment by Hudbay to find a the selected outcome. by both EQT and Rice. successor to the long-tenured board chair. Methanex Corporation vs. M&G Investments

HISTORIC USE OF UNIVERSAL PROXIES IN CANADA In the proxy fight between Methanex and their largest shareholder, M&G Investments, both sides PROXY TYPE PROXY TYPE YEAR COMPANY ACTIVIST OUTCOME issued a universal proxy card. Methanex had first (MANAGEMENT) (ACTIVIST) filed a management-only proxy card with their annual meeting materials, before M&G launched a Aurinia Management Management proxy campaign to elect four directors. 2019 ILJIN SNT Co., Ltd. Universal Pharmaceuticals Inc. Only Win Following M&G’s announcement and filing of a universal proxy card, Methanex issued their own Management universal proxy card. This provided Methanex 2019 Methanex Corporation M&G Investments Universal Universal Win with an increased opportunity to garner support from the proxy advisors and provided Knight Therapeutics Medison Biotech Ltd. Management Management shareholders with the ability to elect those whom 2019 Universal Inc. (Meir Jakobsohn) Only Win they perceived to be the strongest candidates. The dispute concluded in a settlement, with M&G receiving one board seat at the meeting, and an Synex International Management Management 2018 Daniel Russell Blended additional seat being mutually agreed to through Inc. (TSX:SXI) Only Win future board refreshment.

Hudbay Minerals Inc. Waterton Global Resource 2018 Blended Universal Activist Win (NYSE:HBM) Management Inc.

Jacqueline Boddaert, Current Water Ron Hrynyk, Amar Bhatia, Management Management 2018 Technologies Inc. Boddaert Family Trust and Blended Only Win (TSXV:WATR) 2386337 Ontario Inc., “The Concerned Shareholders”

2018 Detour Gold Corp. Paulson & Co. Inc. Universal Universal Activist Win

Crescent Point Energy Management Management 2018 Cation Capital Inc. Universal Corp. (TSX:CPG) Only Win

Rainy Day Investments Ltd. (controlled by co-founder Management 2018 DavidsTea Inc. Universal Activist Win and former director of Only DavidsTea, Herschel Segal)

Mr. Eric Owens, a founder, Alexandria Minerals director, and former CEO of Activist Management 2018 Universal Corp. (TSXV:AZX) Alexandria, and NHP Asset Only Win Management AG

FrontFour Capital Group LLC Activist 2017 Granite REIT Universal Activist Win and Sandpiper Group Only

Vantage Asset Management Management 2017 Espial Group Inc. Blended Activist Win Inc. Only Power Corp. of Canada Management 2017 Graeme Roustan Universal N/A (TSX:POW) Win

16 | 2019 Proxy Season Review www.kingsdaleadvisors.com Universal proxies were first used in Pershing Square Capital’s (LN:PSH) proxy fight against Canadian Pacific Railway DOES SHAREHOLDER ACTIVISM DRIVE SHAREHOLDER VALUE? Ltd. (TSX:CP) in 2011. Since then, the use hareholder activism has increased significantly over the past decade, but have these of these ballots, often referred to as the interventions been effective in creating long-term value for shareholders? “most democratic” ballot, has increased. SIt’s a question that has been widely debated and researched, with many academic studies examining the impact of shareholder activism to date. Universal ballots can be especially Unfortunately, despite the extensive research, there’s no consensus on whether activism is a boon or advantageous to activists who are a curse to the long-term prospects of a target company. seeking minority representation, because they enable disgruntled shareholders 2015 HARVARD STUDY: ACTIVIST INTERVENTIONS DO IMPROVE A TARGET COMPANY’S PERFORMANCE to support all activist nominees, while One of the more comprehensive and widely cited studies, a 2015 study from Harvard (Bebchuk, preserving their ability to vote for select Brav, and, Jiang 2015), supports the thesis that activism can improve performance. The authors incumbent directors. reviewed the post-activist intervention performance of more than 2,000 U.S. companies targeted by activist hedge funds between 1994 and 2007, and found that activist interventions improved a target In addition, a universal ballot can provide company’s performance in each of years 3, 4, and 5 following an intervention. The report also notes both sides with greater visibility on that an initial bump in a targeted company’s stock, of approximately 6%, precipitated by the launch of support levels throughout the campaign, an activist action, isn’t reversed in subsequent years. given that shareholders are more likely to “We find no evidence that activist interventions, including the investment-limiting and adversarial vote on a universal ballot. This visibility interventions that are most resisted and criticized, are followed by short-term gains in performance on shareholder votes is essential as it that come at the expense of long-term performance.” can guide strategy and outreach efforts. —Bebchuk, Brav, and Jiang, 2015 2016 UNIVERSITY OF WASHINGTON AND VILLANOVA UNIVERSITY STUDY: ISS and Glass Lewis are big supporters of universal ballots, and their use could IMPACT OF ACTIVISM IS GROWING lead to a positive recommendation to A 2016 literature review, from researchers at the University of Washington and Villanova University vote on your ballot. (Denes, Karpoff, and McWilliams, 2016) reinforces the findings of the Harvard study and claims that the impact of activism is growing. The researchers note that the recent activist interventions have The use of a universal proxy does, yielded greater improvements in target firms’ values and operations compared to examples cited from however, pose some risks for both sides: studies in the 1980s and 1990s. A universal ballot could lead to a split “This suggests that activists have learned and adapted their strategies, particularly through the board, with shareholders voting for some development of hedge fund activism.” but not all of your nominees. Additionally, —Denes, Karpoff, and McWilliams, 2016 a universal proxy could dilute support as shareholders can only vote for a select 2018 REPORT: NO EVIDENCE ACTIVISM ENHANCES SHAREHOLDER WEALTH number of nominees and may vote for different directors, dispersing votes A more recent report underlines the real challenges of measuring the impact of activism. There seems to be little consensus on what defines “success” (especially operational success) and, importantly, between nominees. any research on the topic is likely to be blurred by the many micro- and macroeconomic factors that affect a targeted company’s long-term prospects. As such, before adopting a universal “On a value-weighted basis, which likely best gauges effects on shareholder wealth and the economy, proxy, careful consideration should be we find that pre- to post-activism long-term returns are insignificantly different from zero.” given to the number of seats sought, the ability of management to manipulate the —deHaan, Larcker, and McClure, 2018 board size, the activist’s objectives, the KINGSDALE’S TAKE influence of the large proxy advisors, and other specifics unique to the campaign. At Kingsdale, we believe the divergent opinions on the positive impact of activism are a result of the Companies must also consider cost and differences in the definition of success, along with a plethora of micro- and macroeconomic factors that impact a company’s long-term prospects. Success, it is important to note, is in the eye of the timing issues: given that most companies beholder, with shareholders considering their own entry and exit point in a stock. will have printed and perhaps even mailed their circulars ahead of their advance While the academics can’t agree on activism’s impact, we have identified several findings for which notice by-laws (which typically expire there is agreement (or at least not disagreement): • Activist interventions are accompanied by an initial bump in share price (though the amount of 30 days prior to an AGM), switching to a that bump and how long it will last remains an open question) universal ballot can lead to considerable • There is no evidence that activist interventions significantly destroy value or impair a target reprinting and mailing costs. company’s long-term performance • Activism has a larger impact on smaller companies than on larger ones • Activism related to corporate takeovers or acquisitions produces the largest improvements at target companies

www.kingsdaleadvisors.com 2019 Proxy Season Review | 17 KEY GOVERNANCE DEVELOPMENTS Changes in ISS Policy

In 2019, ISS introduced policy updates designation based on the number of ISS had received negative recommendations for Canada that included changes to its clients holding shares of the company) from the proxy advisors in previous years. gender diversity and overboarding policies. fell victim to the new policy. The other four directors who were flagged Prior to 2019, ISS applied two With regard to its overboarding policy, by ISS at non-controlled companies separate gender diversity policies for ISS shifted to a single-trigger approach saw their support levels decrease more TSX Composite Index and non-TSX by removing its secondary trigger of significantly from an average of 86.3% in Composite Index companies. However, attending fewer than 75% of board 2018 to 71.8% in 2019. beginning in 2019, ISS expanded its and committee meetings without a gender diversity policy from the TSX valid reason for these absences, and Composite Index to widely held TSX expanded the number of boards a CEO Widely Held TSX Issuers companies. Specifically, ISS will generally can sit on to two outside public company Impacted by ISS’s Expanded recommend a “withhold” vote for the boards (from one) and non-CEO chair of the nominating committee (or directors to five public company boards Gender Diversity Policy: chair of the committee designated (from four). • Premier Gold Mines Ltd. (TSX:PG) with the responsibility of a nominating • ProMetic Life Sciences Inc. (TSX:PLI) committee) if the company has no female To date, we have seen eight directors at • Delphi Energy Corp. (TSX:DEE) directors on the board and the company TSX Composite Index companies receive • Bonterra Energy Corp. (TSX:BNE) did not disclose a formal written gender withhold recommendations due to ISS’s • Trisura Group Ltd. (TSX:TSU) diversity policy. In light of the new updated single-trigger policy regarding • Morguard NA Residential REIT (TSX:MRG.UN) policy, this year, we saw ten negative overboarding. Of the eight, four were • Morguard Real Estate Inv. vote recommendations on nominating directors at controlled companies, who, as (TSX:MRT.UN) committee chairs (compared to only a result of the negative recommendation, • Canacol Energy Ltd. (TSX:CNE) three in 2018). While none of the TSX saw their support levels drop marginally. • North American Construction Composite Index issuers were impacted, Notably, two of these directors at controlled Group Ltd. (TSX:NOA) • Canfor Pulp Products Inc. (TSX:CFX) ten “widely held” companies (per ISS’s companies were “repeat offenders” who Changes in Glass Lewis Policy

Glass Lewis also introduced policy the absence of a separate committee with changes for the Canadian market that designated E&S risk oversight functions. included major updates to its board gender diversity policy, environmental Finally, for its virtual-only shareholder and social (E&S) risk oversight, and meetings policy update, Glass Lewis virtual-only shareholder meetings. will examine a company’s disclosure of its virtual meeting procedures and As of 2019, Glass Lewis will generally could recommend voting against recommend voting against the members of the governance committee nominating committee chair of a board if the company does not provide that has no female members and may disclosure assuring that shareholders also recommend voting against the will be afforded the same rights and nominating committee chair if the opportunities to participate as they would board has not adopted a formal written at an in-person meeting. Glass Lewis diversity policy. Glass Lewis may extend will be looking for examples of effective the adverse recommendation to other disclosure, including the procedures for members of the nominating committee, posting shareholder questions and the depending on factors such as company company’s responses after the meeting, size, industry, gender diversity on the addressing technical and logistical issues management team, the company’s overall concerning access to the platform, and governance profile, and whether there are procedures for accessing technical other board composition concerns. support in the event of any difficulties joining the virtual meeting. For its E&S risk oversight update, Glass Lewis will now recommend that shareholders vote against directors who have been charged with oversight of E&S in

18 | 2019 Proxy Season Review www.kingsdaleadvisors.com Diversity: Almost There?

Unfortunately, board diversity remains a In 2018, all TSX 60 constituents came to challenge in Canada, with a few noteworthy their AGMs with at least one woman on the recent developments. In addition to the board. In 2019, 92% (55 of 60) of the new policies from proxy advisors, the TSX 60 constituents entered their meetings federal government has enacted new with at least two women on the board. legislation, Bill C-25, which requires federally incorporated public companies to release figures on board diversity.

Figure K Perentage of TSX Composite Inde Companies it No Women on Board as of most reent meeting date 50% 45% 44 40% 41

5% 34 0% 25% 20% 22 15% 17

10% 10 Excluding Barrick Gold Corp. (TSX:ABX), given 5% extraordinary circumstances following the passing of their only female director prior to 3 the AGM. Barrick has since appointed a new 0% female director. 2012 2013 2014 2015 2016 2017 2018 2019 Source: ISS Analytics

Figure L Percentage of Female Representation on Boards of TSX 60 Companies 60%

50%

40%

30%

20%

10%

0% CGI Inc. BCE Inc. BCE BCE Inc. BCE Metro Inc. Metro Fortis Inc. Fortis Emera Inc. Emera Emera Inc. Emera Saputo Inc. Saputo Saputo Inc. Saputo Nutrien Ltd. Shopify Inc. TELUS Corp. TELUS TELUS Corp. TELUS Enbridge Inc. Enbridge Enbridge Inc. Enbridge Encana Corp. Encana Encana Corp. Encana Cameco Corp. Cameco Dollarama Inc. Dollarama Dollarama Inc. Dollarama OpenText Corp. BlackBerry Ltd. BlackBerry BlackBerry Ltd. BlackBerry Imperial Oil Ltd. Bombardier Inc. Bombardier Bombardier Inc. Bombardier TC Energy Corp. TC Energy Corp. Inter Pipeline Ltd. Husky Energy Inc. Barrick Gold Corp. Suncor Energy Inc. Energy Suncor Suncor Energy Inc. Energy Suncor CCL Industries Inc. Industries CCL Kinross Gold Corp. Gold Kinross George Weston Ltd. Teck Resources Ltd. Teck Teck Resources Ltd. Teck Cenovus Energy Inc. The Bank of Montreal Franco-Nevada Corp. Gildan Activewear Inc. Activewear Gildan Sun Life Financial, Inc. Financial, Life Sun Sun Life Financial, Inc. Financial, Life Sun Pembina Pipeline Corp. Pembina Pipeline Corp. SNC-Lavalin Group Inc. SNC-Lavalin Group Inc. Loblaw Companies Ltd. Companies Loblaw Loblaw Companies Ltd. Companies Loblaw Waste Connections Inc. Waste Waste Connections Inc. Waste Thomson ReutersThomson Corp. Magna International Inc. International Magna Magna International Inc. International Magna Agnico Eagle Mines Ltd. Manulife Financial Corp. Financial Manulife Manulife Financial Corp. Financial Manulife The Bank of Nova Scotia The Royal Bank of Canada. Constellation SoftwareConstellation Inc. Shaw Communications Inc. Communications Shaw First Quantum MineralsFirst Ltd. First Quantum MineralsFirst Ltd. The Toronto-Dominion Bank Toronto-Dominion The The Toronto-Dominion Bank Toronto-Dominion The The National Bank of Canada of Bank National The Rogers Communications Inc. Communications Rogers Canadian Pacific Railway Ltd. Alimentation Couche-Tard Inc. Couche-Tard Alimentation Power Corporartion of Canada Canadian National Railway Co. Railway National Canadian Bausch Health Companies Inc. Companies Health Bausch Canadian Tire Corporation, Ltd. Corporation, Tire Canadian Wheaton Precious Metals Corp. Canadian NaturalCanadian Resources Ltd. Canopy Growth Corporation, Ltd. Canopy Brookfield Asset ManagementBrookfield Asset Inc. Restaurant Brands International Inc. International Brands Restaurant Brookfield Infrastructure Partners LP. Partners Infrastructure Brookfield

The Canadian Imperial Bank of Commerce. of Bank Imperial Canadian The TSX 60 Companies

www.kingsdaleadvisors.com 2019 Proxy Season Review | 19 Majority Voting

The application of majority voting occurrence in Canada. The policy In 2018, we observed only four instances policies, whereby a director is required requires that absent “exceptional where majority voting policies were to immediately tender their resignation circumstances”, the board must accept applied. However, so far in 2019, we have if he or she receives less than 50% the resignation within 90 days, with the seen that number almost double to seven support at a special or annual general resignation becoming effective upon instances where a director received more meeting, continues to be a rare acceptance by the board. “withhold” votes than “for” votes.

DIRECTORS TRIGGERING MAJORITY VOTING POLICIES

COMPANY AGM DATE VOTE RESULT OUTCOME

Baylin Technologies Inc. May 14, David M. Gelerman • While the director is required to submit his resignation, the company has (TSX:BYL) 2019 – 29.13% not yet disclosed any resignation. Market Cap: $121M

Richard Falconer • As both directors are members of the company’s governance, compensation, Jaguar Mining Inc. June 04, – 32.28% and nominating committees, the board has created a special committee to review. (TSX:JAG) 2019 Edward Reeser • The directors have tendered their resignations. Market Cap: $166M – 32.28% • Mr. Falconer’s resignation has been accepted but Mr. Reeser’s is still pending.

Street Capital Group Duncan Hannay June 19, • Mr. Hannay tendered his resignation. Inc. (TSX:SCB) (President and CEO) 2019 • Street Capital was subsequently acquired by RFA Capital Holdings Inc. Market Cap: $82M – 35.73%

Trez Capital Senior Stewart J.L. Robertson • Mr. Robertson failed to be elected, as a resolution to increase the board size from Mortgage Investment June 19, – 49.46% five to six was not approved, while Mr. Vorwaller received less than 50% support. Corp. (TSX:TZS) 2019 Gregory S. Vorwaller • Mr. Vorwaller has tendered his resignation and the board has accepted Market Cap: $17M – 49.51% the resignation.

• Mr. Marks refused to tender his resignation. • As a result of his refusal to comply with the company’s majority voting policy, Steppe Gold Ltd. June 28, Lewis Marks the TSX may conduct a review of his suitability to be a director or officer of a (TSX:STGO) 2019 – 40.22% TSX or TSX Venture Exchange listed company. Market Cap: $41M • An ordinary resolution for removing him as a director was approved by shareholders at a special meeting held on August 23, 2019. The Snail’s Pace of Virtual AGM Adoption Virtual meetings continue to be a rising a hybrid option, wherein a traditional phenomenon within the U.S., but Canada meeting format is augmented by the has been remarkably slow to keep pace, addition of a virtual component, rather with more companies willing to explore than a virtual-only option.

Figure M Virtual Meetings Hosted in the U.S. Total Meetings Estimated 400

50 102 00 250 285 248 200 236 187 150 100 134 93 67 50 53 4 39 0 28 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Source: Broadridge Financial Solutions (to June 30, 2019)

20 | 2019 Proxy Season Review www.kingsdaleadvisors.com During the 2017 proxy season, Kingsdale this, hybrid meetings have become an assisted Concordia International Corp. increasingly appealing option. Three hybrid (TSX:CXR) in the first virtual-only meetings took place in 2017, with four meeting in Canada. Since then, just occurring in each of 2018 and 2019. one virtual-only meeting occurred in 2018 and two occurred in 2019, at We note that Broadridge Financial Goose Holdings Inc. (TSX:GOOS), and Solutions only introduced its virtual AGM Imperial Metals Corp. (TSX:III). options for Canada in 2018. As companies become comfortable with these options, Canadian companies’ hesitance towards we expect more to get on board with at virtual-only meetings may be related to least the hybrid meeting option. concerns about hindering shareholder communication and the uncertainty around real-time shareholder votes. To address

DO WE REALLY NEED IN-PERSON AGMs ANYMORE? f course, the AGM is a necessary convention that allows shareholders to exercise their democratic rights to vote for the election of directors, appoint auditors, consider financial statements, and any other special matters. But, with the introduction of virtual AGMs, coupled with enhanced governance Opractices that boards should be enforcing, is it time to do away with the traditional in-person meeting? As we’ve noted, virtual-only AGMs have been almost non-existent in Canada. In our view, the case for making the shift to virtual meetings is a strong one. MORE THAN 95% OF SHARES ARE VOTED WELL IN ADVANCE OF THE MEETING INVESTOR DAYS, ONE-ON-ONE MEETINGS ARE MORE APPROPRIATE VENUES n our experience, most shares that are going to be voted are done via proxy FOR INVESTOR PRESENTATIONS in advance of a meeting. Why? In Canada, the deadline for shareholders to nce voting and other technical portions of an AGM are completed vote is typically 48 hours prior to an AGM. Only registered shareholders and the formal meeting is adjourned, then what? Many companies I(who make up a small percentage of overall share count) and those who proceed to a more formal investor presentation, often to an empty actually take the time to formally appoint themselves to vote are able to vote Oroom or a room filled with advisors who are networking. It is sometimes at the meeting itself. Moreover, there is really no advantage to voting at the embarrassing when the CEO runs through a 20-minute presentation meeting (other than to reserve one’s right to a last-minute decision or to with no new information to no “real” shareholders. While we feel that surprise a company with a negative vote). it’s appropriate for a chairperson or CEO to make a few comments at the beginning of an AGM to comment on the company’s performance, an AGM A SHAREHOLDER’S ABILITY TO RAISE QUESTIONS, INTRODUCE SHAREHOLDER is not an investor day or a media event. PROPOSALS IS LIMITED We believe that AGMs are important events to uphold the fundamental t an AGM, the chairperson’s role is to run through the items on the agenda rights of shareholders, and that they can be satisfied by the virtual-only allowing shareholders to only ask questions as they pertain to those meeting solution or the hybrid meeting. The latter has been deemed to matters and to the extent an answer may impact a shareholder’s vote. be the most shareholder-friendly, as it enhances participation and still WhileA proxy holders or registered holders may bring forward other matters, maintains the tradition of the in-person meeting. shareholder proposals must be submitted in advance of a meeting. Further, if a company has adopted an advance notice by-law, as has become common practice, nominations of directors must also be received in advance of the AGM.

Notable Shareholder Proposals: Diversity, Compensation, and Activist Games The number of shareholder proposals ISS and Glass Lewis endorsed it, in with 34 so far. The two most common in Canada has drastically increased this part because Waste Connections Inc. proposals are the integration of ESG year, soaring from 53 in 2018 to 88 so far has only one female director on its criteria into executive compensation and in 2019. Of the 88 proposals, 31% were board (14% female representation). the disclosure of pay ratio, both of which withdrawn and only one proposal passed. Cascades Inc. (TSX:CAS) also received are primarily advocated by MÉDAC. As The significant increase can be largely a similar shareholder proposal to adopt well, institutional shareholders continued attributed to shareholders’ heightened a policy to increase gender diversity to exert pressure on companies that scrutiny of executive compensation and and female representation on the have not yet adopted a say-on-pay board-related governance matters, as we board and senior management, from vote. Based on our observation, this have seen 16 and 13 more proposals in Mouvement d’éducation et de défense continued pressure is having an impact, 2019 on these two topics, respectively. des actionnaires (MÉDAC), but it only even at controlled companies (a topic garnered 40% support. Part of the reason we discuss in greater detail on page 38). The successful proposal, to adopt why this proposal found less support Loblaw Companies Ltd. (TSX:L) and Onex a formal written diversity policy and could be that Cascades already has Corp. (TSX:ONEX) received shareholder report regarding the representation 33% female representation on its board, proposals on say-on-pay in 2018, and of women at Waste Connections Inc. despite the lack of a formal policy. Saputo Inc. (TSX:SAP) received one (TSX:WCN), received 65% support. The back in 2017; all adopted say-on-pay British Columbia Teachers’ Federation Compensation-related shareholder resolutions this year. submitted the proposal, and both proposals remain dominant this year,

www.kingsdaleadvisors.com 2019 Proxy Season Review | 21 Figure N Number of Shareholder Proposals by Type Number of Proposals Withdrawn Number of Proposals Voted Average Support Level 40 60% 5 52.20% 21 50% 0 Level Average Support 40% 25 20 0% 13

2019 15.05% 15 6 19.94% 20% 13

Number ofNumber Proposals 10 10 4 2 11.14% 11.49% 10% 5 11 4 5 3 3 5.61% 0 13 3.48% 0 0% Environmental Diversity Human Rights Board-Related Compensation Shareholder Proxy Voting Rights Disclosure

Number of Proposals Withdrawn Number of Proposals Voted Average Support Level

20 60% 19

49.20% 50% 15 Level Average Support 40% 37.95% 10 0% 2018 4 7 20% 3 Number ofNumber Proposals 5 16.93% 2 2 12.20% 4 2 10.75% 2 3 8.84% 10% 1 3 8.15% 1 3 3 0 1 1 0.80% 0 1.85% 0% Environmental Diversity Human Rights Political Board-Related Compensation Shareholder Proxy Voting Other Rights Disclosure

One notable shareholder proposal this a holding company with an interest in Medison’s shareholder proposal was year was an activist by-law resolution Pharmascience, Medison argued this supported by Glass Lewis but not ISS, submitted by Medison Biotech Ltd. could cause a conflict of interest and who believed the company’s existing during its proxy fight against Knight thereby proposed to amend one of the policies are “best enforced by an Therapeutics. This proposal was brought company’s by-laws by specifically adding independent board rather than a specific forward as a tactic to help augment a “no conflict of interest” section. by-law”. The by-law was defeated, as one of Medison’s particular arguments. was the activist’s slate of nominees, at Specifically, Medison raised conflict In response to the allegations, the company’s AGM. of interest allegations claiming that Knight’s CEO entered into a blind Knight’s CEO had a higher stake in his trust relinquishing all rights to vote his father’s company, Pharmascience Inc., Pharmascience shares and established a direct competitor of Knight, than he a firewall restricting his access to any did in Knight. While the CEO was just information concerning the business of a non-voting minority shareholder of Pharmascience.

22 | 2019 Proxy Season Review www.kingsdaleadvisors.com ESG Disclosure and Evaluation Trends The days of companies taking advantage financial management. As such, mainstream among TSX 60 companies, of unlimited carbon emissions, investors are looking for increased with 92% issuing ESG or sustainability commoditized labour, and excessive disclosure on these topics and an reports and 39% of all TSX companies waste production seem to be numbered. opportunity to engage with boards. reporting their ESG practices. We note ESG has become a critical component that, of the disclosure reviewed from TSX in the decision-making process for A research study conducted by the 60 companies, ESG disclosure is mostly institutional investors and has been Responsible Investment Association limited to the E&S categories. ingrained in a culture of responsible (RIA) indicates that ESG has become

Figure O Percentage of TSX 60 Companies Issuing ESG or Sustainability Reports Companies Issuing ESG or Sustainability Reports Companies That Do Not Issue ESG or Sustainability Reports

8%

92%

ISS and Glass Lewis responded to Glass Lewis, on the other hand, has example of how companies have been investor demands by launching their partnered with the Sustainability seeking to improve reporting, during own ESG evaluation tools in 2018. Accounting Standards Board (SASB) an investor day in April hosted by Teck ISS publishes its E&S QualityScore to to provide sector-based ESG material Resources Ltd. (TSX:TECK.B), the help standardize these factors and to factors after including Sustainalytics company held a one-hour sustainability provide certainty by “number value” for research and ratings. Additionally, session led by its CEO, who updated investors. ISS considers approximately companies use the Global Reporting investors on how E&S issues are 240 factors when evaluating a Initiative (GRI) standard to help strategic to the business. company’s rating, giving them the most shareholders understand the company’s thorough evaluation test to date. impact on climate change. In a notable Vote Buying: IIROC Guidance Puts an End to Its Usage in Proxy Fights

Following last year’s request by the in such arrangements in contested Canadian Securities Administrators for meetings. IIROC has provided direction comment on the use of soliciting dealer to Dealers about how they can avoid arrangements, the Investment Industry or manage conflicts of interest arising We believe that in some cases Regulatory Organization of Canada from the arrangements, particularly with the conflicts of interest arising (IIROC) provided guidance on the usage regards to votes solicited for a contested from these arrangements can of such arrangements, specifically limiting meeting (vs. an acquisition or transaction) be addressed, for example, their use in contested director elections. that can raise concerns about a Dealer’s by, appropriate policies and ability to comply with IIROC’s conflict procedures. However, there The use of soliciting dealer arrangements rules and related guidance. are other arrangements where has attracted a lot of criticism within the context of proxy fights, where it has IIROC provides guidance on the types the conflicts are, in our view, been dubbed “vote buying” and seen as of conflicts in contested elections unmanageable and therefore an entrenchment tactic by incumbent that can’t be managed and should be should be avoided. directors who will pay for votes in favour avoided. Specifically, if fees are paid - IIROC of their slate and in the event that their only for votes in favour of one side and if slate is successful. that side is successful, then it is unlikely that the Dealer would be able to provide While some, including Kingsdale, had objective advice and should therefore called for an outright ban on soliciting avoid participation. IIROC notes that in dealer arrangements within the context the case of contested director elections, of a proxy fight, IIROC has provided qualitative assessments related to guidance to Dealer Members (Dealers) future business strategy and the ability that will essentially end their participation of different nominees to implement the

www.kingsdaleadvisors.com 2019 Proxy Season Review | 23 strategy are required, and it is unlikely these situations are fact- and context- should include who is paying the fee, that the Dealer would be able to provide specific, including the fact the situations the amount, and whether it is contingent objective advice in this area if their themselves could become contested. on a certain outcome. Importantly, payment was tied to a specific outcome. As such, it is up to the Dealer to IIROC notes that disclosure alone is an consider if it can address any conflicts inadequate way to address a conflict In other situations that involve a of interest that may arise on a case- because of the limited impact it may have shareholder vote and are more by-case basis, such as by disclosing on a client’s decision-making process. related to a quantitative assessment the conflict. Such disclosure must be As such, the Dealer should also identify of details related to deal terms (e.g. timely, understandable, and prominent how it has addressed the conflict in the a plan of arrangement), IIROC notes to allow for a fully informed decision and best interest of the client. CONCENTRATION ON COMPENSATION Say-on-Pay Snapshot 2019 marks almost a decade of say- 13% of TSX issuers hold say-on-pay tri-annual votes. For those companies on-pay in Canada. While at Kingsdale votes. It should be noted that the vast that have not yet adopted a say-on-pay we’ve seen 24 new companies voluntarily majority of TSX adopters have provided resolution, we continue to advise in adopt a say-on-pay vote this year, the an annual vote, the few outliers being favour of it, both as a best practice and overall rate of adoption, as a percentage Richards Packaging Income Fund as an added protection from negative of all TSX issuers, has all but levelled (TSX:RPI.UN), Secure Energy Services recommendations by proxy advisors for off in the last few years. Overall, 72% of Inc. (TSX:SES), and Trilogy Metals Inc. compensation committee members. TSX Composite Index companies and (TSX:TMQ), which hold bi-annual or

Figure P Say-on-Pay Adoption Trends of All Canadian Companies Adopted in Respective Year Adopted Previously

00 24 20 273 250 18 253 33 235 200 26 202 27 176 150 32 149 100 31 117 58 86 Number of TSX Composite Index Companies Index Composite TSX of Number 50 28 28 0 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Shareholder Support Levels Similar to prior years, the average say- levels subtly but steadily decline. We on-pay support level in 2019 hovers attribute this to increased scrutiny in the 90% to 91% range. With almost on executive compensation, more a decade of data, it is interesting to stringent proxy advisor guidelines, and note that, since coming to Canada in a institutional shareholders’ maturing meaningful way, say-on-pay votes have internal proxy voting policies. seen their average and median support

24 | 2019 Proxy Season Review www.kingsdaleadvisors.com Figure Q Say-on-Pay Support Level (Percentage) Average Median

2019 90.63 93.75 Median Say-on-Pay 2018 91.18 94.14 Support Levels Dropping 2017 90.74 94.73 2010 90.96 2016 94.96 91.64 2015 95.09 91.98 2014 95.16 2019 90.05 2013 95.35 91.98 2012 95.56 92.94 2011 96.24 94.73 2010 96.71 85% 87% 89% 91% 93% 95% 97% 99%

Companies That Failed Say-on-Pay

Year-to-date, three companies – none of this year with only 45.86% support. While Three Companies Failed which are composite index issuers – have both proxy advisors have recommended failed say-on-pay votes. “against” say-on-pay at Copper Mountain Say-on-Pay in 2019 in the past, this year only Glass Lewis IMAX Corp. Copper Mountain Cardinal Mining Corp. Energy Ltd. IMAX Corp. (NYSE:IMAX), which was provided a negative recommendation. dual-listed on both the NYSE and We suspect this year’s failed vote, 39.30% 45.86% 49.84% TSX until 2015, received “against” despite support from ISS, is the result recommendations from both ISS and of lacklustre one-year performance and Glass Lewis, and only 39.30% support shareholders wanting to send a message from shareholders in its third consecutive to management. year of failing say-on-pay (43.17% support in 2018 and 29.98% support in Cardinal Energy first adopted its say- 2017), marking the longest streak of failed on-pay vote in 2018 and garnered say-on-pay votes in the world. In fact no 91.80% support, a stark difference TSX issuer has failed their say-on-pay from this year, with support falling to votes in consecutive years. 49.80%. What changed? Glass Lewis’s negative recommendation cited some The other two companies, Copper red flags on executive compensation, Mountain Mining Corp. (TSX:CMMC) including a lack of objective, formulaic, and Cardinal Energy Ltd. (TSX:CJ), and performance-based incentives received “against” recommendations under short-term incentive plan (STIP) from Glass Lewis on say-on-pay but “for” awards; lack of performance-based recommendations from ISS. long-term incentive plan (LTIP) awards; and immediate payout of cash severance Over the past three years, Copper upon change-in-control (single-trigger Mountain had an average support level change-in-control provision). of 63.90% but, for the first time, failed

Diverging Approaches for ISS and Glass Lewis

In analyzing proxy advisors’ recommenda- Two of the three companies that failed tions this year, we note that ISS and Glass say-on-pay received an “against” Lewis seem to have adopted different recommendation from Glass Lewis approaches to say-on-pay. Notably, of but not ISS. the 30 companies that received negative recommendations in 2019,only two – ISS and Glass Lewis also differed in their Hudson’s Bay Co. (TSX:HBC) and IMAX – voting recommendations on 11 of 21 say- received negative recommendations from on-pay votes that ended up garnering both proxy advisors. support of less than 80%.

www.kingsdaleadvisors.com 2019 Proxy Season Review | 25 ISS AND GLASS LEWIS RECOMMENDATIONS AT COMPANIES EARNING LESS THAN 80% SUPPORT COMPANY MARKET ISS GLASS LEWIS SUPPORT NAME CAP** RECOMMENDATION RECOMMENDATION LEVEL IMAX Corp. $1,623M Against Against 39.30% Copper Mountain Mining Corp. $158M For Against 45.86% Cardinal Energy Ltd. $277M For Against 49.84% Sherritt International Corp. $77M For For 53.99% Yamana Gold, Inc. $3,155M For Against 54.49% Baytex Energy Corp. $1,130M Against For 58.09% Chemtrade Logistics Income Fund $868M Against For 60.86% Encana Corp. $9,049M Against For 61.04% Crew Energy, Inc. $123M Against For 61.20% Bellatrix Exploration Ltd.* $36M For For 70.98% Agnico Eagle Mines Ltd. $15,909M For Against 71.77% Hudson’s Bay Co.* $1,360M Against Against 73.54% CI Financial Corp. $5,030M For For 73.61% Denison Mines Corp. $413M For Against 74.72% Pengrowth Energy Corp.* $274M For Against 74.90% The North West Co., Inc. $1,380M For For 75.00% Kinross Gold Corp. $6,338M For For 75.44% Laurentian Bank of Canada $1,796M For For 75.74% Pretium Resources, Inc. $2,416M For For 76.72% PrairieSky Royalty Ltd. $4,296M For For 78.29% Endeavour Mining Corp.* $2,347M For Against 79.58%

* Controlled or quasi-controlled companies, whereby a stake of 20% or greater is held by a single person, entity, or group. ** Market Cap as of Q2 2019 or most recent reporting period.

As in previous years, with the exception quantitative pay-for-performance tests of 2017, Glass Lewis has taken a to “medium” concern after conducting a substantially more aggressive approach qualitative analysis, resulting in a positive than ISS, recommending “against” recommendation. ISS also noted that the 26 say-on-pay votes versus six from company’s new CEO’s pay for the year ISS. This compares to 21 “against” was 41% lower than that of the former recommendations from Glass Lewis CEO in his last full year and that the versus nine from ISS in 2018. total Named Executive Officer (NEO) pay declined 20% from last fiscal year. Some of the common compensation features that Glass Lewis took issue Another example is Sherritt International with included: a single-trigger change- Corporation (TSX:S), where ISS’s initial in-control provision; similar metrics quantitative pay-for-performance screen used under STIP and LTIP; discretionary also yielded a “high” concern, which was With the exception of one year, Glass Lewis short-term incentive awards; lack then reduced to a “medium” concern is more aggressive than ISS on say-on-pay of a clawback provision; insufficient after ISS considered qualitative factors. recommendations. disclosure of STIP performance goals; ISS noted that the company had been Number of “Against” Recommendations short performance period under LTIP; reducing its debt and strengthening On Say-On-Pay excessive reliance on STIP payout; and its balance sheet over the last year ISS substantial severance payments. despite struggling TSRs and poor Glass Lewis operational performance in 2018; that 0 Qualitative discretion has continued after active shareholder engagement, the 26 to play a critical role in influencing the company further improved its executive 25 proxy advisors’ final recommendations, compensation structure to better align 21 particularly in the case of ISS, CEO pay with performance, as evidenced 20 18 where we noted that several of their by significantly lower realized/realizable recommendations were reversed based pay versus granted pay; and that the 15 13 on qualitative analysis. (This means that company also explicitly stated in its 9 an initial “pass” was reversed to “fail” due circular that it is committed to simplifying 10 to negative over-riders, and an initial “fail” the short-term incentive plan to better 6 5 reversed to “pass”, thanks to positive reflect its 2019 strategic objectives and factors.) One example is Crescent to replace option awards with restricted 0 Point Energy, for which ISS lowered share units while it continues to assess 2019 2018 2017 its initial “high” concern derived from alternatives to options in fiscal 2019.

26 | 2019 Proxy Season Review www.kingsdaleadvisors.com Companies with Less Than 80% / 70% Support ISS expects companies to demonstrate reasonable “responsiveness” in addressing shareholders’ concerns if their say-on-pay proposals receive less than 70% of shareholders’ support, while 21 companies with less than Glass Lewis’s line is 80%. In 2019, we 80% support vs. 18 in 2018 have seen a slight increase in the number of sub-80% companies, but the number of sub-70% companies remains the Problematic severance same as the year prior. payments

Figure R Need for robust performance metrics Companies with Say-on-Pay Votes Receiving Less Than 80% and 70% Support disclosure Less Than 80% Support Discretionary Less Than 70% Support one-time payments 0 26 25 21 19 20 17 18 14 15 13 13

10 8 10 9 9 10 7 5 5 5 Number of Companies 5 3

0 0 0 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Red Flags in CEO Compensation Of the 21 companies that received sub- Problematic severance arrangements awards. At the same time, we are seeing 80% say-on-pay shareholder support, upon change-in-control: Single-trigger more companies that received low 81% have a pay and performance and/or excessive severance payouts support for say-on-pay in previous years disconnect concern, primarily due are also attracting scrutiny. From the committing to introducing or increasing to underperformance along with pay proxy advisors’ perspective, severance their use of PSUs as a positive remedy practices that are not in line with best is intended as a protection against practice to show responsiveness. For practices. Discretionary one-time involuntary job loss, and therefore should companies that make such commitments payments, problematic severance not be paid under voluntary retirement to shareholders in their circular, it is arrangements upon change-in-control, or “performance termination”. Best equally important to communicate and insufficient disclosure of incentive practice is to adopt double-trigger clearly the concept and timeline of the award metrics are three prominent provisions that require the termination new program. concerns raised by proxy advisors and of executives without cause following a institutional shareholders that can lead to change-in-control before receiving the say-on-pay failures. full severance package.

Discretionary one-time payments: Insufficient disclosure of incentive Discretionary one-time payments award metrics: Proxy advisors such as a sign-on bonus and retention traditionally examine the performance grants to NEOs are generally viewed metrics and performance periods of as problematic pay practices by companies’ performance share units shareholders and proxy advisors. From (PSUs) to determine their robustness. their perspective, a rigorously designed Problematic practices include the use executive compensation scheme should of similar performance metrics under be robust enough to incentivize and both STIP and LTIP, short performance reward outstanding performance. For measurement periods (i.e. less than those companies that have already three years), discretion in granting granted a one-time bonus or award, they performance equity awards, and need to consider disclosing the amount insufficient disclosure of long-term and the compensation committee’s performance metrics. In recent years, rationale for the grant in the management institutional shareholders have also circular, rather than burying the figures in been increasingly calling for a greater the summary compensation table or with proportion of performance-based equity blanket statements. awards in a CEO’s long-term incentive

www.kingsdaleadvisors.com 2019 Proxy Season Review | 27 Say-on-Pay by Sector In 2019, the energy and materials sectors both witnessed companies. While the communication services sector also had similar gaps between average and median say-on-pay support a low level of support for say-on-pay, we note this was mainly levels, as the two sectors had the lowest support levels driven by the failed vote at IMAX. compared to other sectors as well as two of the three failed Figure S Say-on-Pay Sector Profile Average Support Median Support 100%

97

96 96 95% 94 94 94 94 94 94 94 94 93 92 92 91 93 92 91 90% 90 89 88 88

5% Consumer Health Care Industrials IT Real Estate Utilities Financials Materials Energy Consumer Communication Staples Discretionary Services Companies That Failed in 2018 – Where Are They Now?

One of the things we look at annually Crescent Point Energy appointed a new company made several changes to its is how companies that fail say-on-pay CEO and held an uncontested AGM compensation programs, including a respond to their failures and regain the in 2019. Despite the legacy CEO pay new benchmarking peer group and a trust of shareholders. Maxar Technologies issues, proxy advisors acknowledged decrease in the discretionary component Inc. (TSX:MAXR), IMAX, and Crescent the transition to a new senior leadership of its bonus program from 50% to 20% Point Energy were the three companies team and the enhanced pay and of the overall target opportunity. Despite that failed say-on-pay in 2018. At their performance linkage for the new CEO, these changes, the CEO received twice AGMs this year, Maxar and Crescent Point thus downgrading their concerns upon the bonus he was granted in fiscal 2017 Energy’s say-on-pay resolutions received qualitative analysis and issuing “for” and the company had poor short-term overwhelming support, while IMAX’s recommendations. performance, resulting in a significant resolution, once again failed. pay-for-performance misalignment. Maxar Technologies held a special Crescent Point Energy failed its say- meeting in November 2018, seeking It is worth noting that several other on-pay last year with 38.52% support. shareholders’ approval of U.S. companies that received low levels This year, the company received 87.54% domestication. Maxar U.S. became of support in 2018 have substantially shareholder support and was supported the parent company of Maxar Canada improved their say-on-pay support by both ISS and Glass Lewis. It should and its subsidiaries. At its 2019 levels in 2019 by addressing be noted that last year the company annual meeting, Maxar received 75% shareholder concerns. Qualitatively, as was trapped in a heated proxy fight shareholder support for its say-on-pay. a vast majority of these companies are against Cation Capital, which attacked Kingsdale clients, we can tell you that the company’s misalignment of pay and IMAX, as noted earlier, again failed its the two factors that lead to higher levels performance. Under this spotlight, the say-on-pay for the third consecutive of support are: director-led engagement company’s executive compensation was year. As in 2017, both ISS and Glass with shareholders that includes the chair highly scrutinized by proxy advisors and Lewis recommended against its say-on- of the compensation committee; and disgruntled shareholders. Following the pay. IMAX’s support fell from 43.17% active adoption of, and commitment to, victory in the proxy contest, however, in 2018 to 39.3% in 2019. While the executive compensation best practices.

NOTABLE SAY-ON-PAY TURNAROUNDS COMPANY 2018 2019 Change Crescent Point Energy Corp. 38.52% 87.54% 49.02% Alacer Gold Corp. (TSX:ASR) 60.36% 98.08% 37.72% TransGlobe Energy Corporation (TSX:TGL) 62.43% 94.19% 31.76% Canadian Pacific Railway Ltd. 70.11% 95.82% 25.71% Pretium Resources Inc. (TSX:PVG) 57.97% 76.72% 18.75% Atlantic Power Corp. (TSX:ATP) 77.62% 95.40% 17.78% ECN Capital Corp. (TSX:ECN) 76.07% 86.13% 10.06% Aimia Inc. (TSX:AIM) 77.39% 84.09% 6.70% NOVAGOLD Resources Inc. (TSX:NG) 77.77% 83.41% 5.64%

Largest improvements for say-on-pay results amongst companies that failed say-on-pay or fell below engagement thresholds.

28 | 2019 Proxy Season Review www.kingsdaleadvisors.com Rules on Stock Options With the rise of PSUs – and, to a lesser cannabis industry, where the largest to their 2017 cannabis strategy, which extent, restricted share units (RSUs) – we companies still use stock options as involved “identifying and partnering with are continuing to see a steady decline the primary equity instrument. Of the an existing public Licensed Producer in the use of stock options, especially TSX-listed cannabis companies, Village (“LP”) who was willing to enter into a joint among mid- and large-sized companies. Farms International (TSX:VFF) is the venture with the company”. The exception, not surprisingly, is the only one to adopt a PSU program tied

Figure T LTIP Mix Among the Cannabis Companies Stock Options PSU RSU DSU 7% 7% 7%

79% The LTIP mix among cannabis companies stands in stark contrast to what we see with other TSX 60 issuers who use PSUs as their primary LTIP vehicle and have reduced their use of stock options.

One of the reasons stock options have limit the use of stock options, as most of certainly be on the agenda in many been a popular equity instrument among the current preferential tax treatment will boardrooms this fall. Having said that, Canadian issuers is the tax advantage, be taken away. the very notion of re-introducing stock which essentially provides capital- options and making a one-time grant gain-like tax treatment to the proceeds Given the uncertainty related to the timing off the regular cycle will be viewed very realized from the exercise of option of new stock option tax rules, discussions negatively by shareholders and proxy awards. However, the proposed changes around the implications and possibility advisors. We have seen a few cases to stock option taxation, as tabled in of doing an off-cycle grant prior to the this year where ISS highlighted these Canada’s 2019 federal budget, will likely effective date (January 1, 2020) will practices in their benchmark reports. ISS’s 2020 Policy

ISS conducts an annual survey among 2. Director overboarding: In its survey, proposals, and voting against board its key stakeholders as part of its policy ISS is revisiting this issue, given that members as appropriate. development process, with the objective “some large institutional investors of looking at potential policy changes for have recently tightened their limits on 4. Adopt economic value added (EVA) as 2020 and beyond. With the commentary director overboarding”. For CEOs, ISS a secondary quantitative performance period for the survey having ended in is asking stakeholders to choose an measure: For context, ISS included August, we expect ISS to publish its option of up to three boards, and for EVA for information purposes in its 2019 final proposed changes to the existing professional directors, they are asking benchmark research reports, and is guidelines later this year. them to choose up to a maximum of planning to incorporate EVA metrics into six boards. In our view, the maximum the secondary Financial Performance In the meantime, the survey provides number of boards on which directors Assessment (FPA) test moving forward. us with a sneak peek at what the can serve will likely remain the same ISS may continue to display the proxy advisor might be focusing on in as 2019, where independent directors previously used generally accepted developing its voting policies for the can be on five boards in total and a accounting principles (GAAP) metric 2020 proxy season. The key questions CEO can be on a total of three boards, separately as a point of comparison. (We affecting Canadian issuers include: including his or her home board. explore EVA in greater detail on page 46.)

1. Board gender diversity: Through its 3. Director accountability related to It is worth noting that, in 2018, for survey, ISS is asking stakeholders to climate change risks: Recognizing the first time, Glass Lewis publicly comment on gender diversity. Starting the increasing importance to investors sought comments to its guidelines in 2020, ISS, under its U.S. proxy of climate change risks, ISS is from all market participants as part voting guidelines, will recommend asking participants for their views on of its increasingly transparent policy against the chairs of nominating appropriate actions in response to formulation process. However, contrary committees at Russell 3000 and S&P failure to address related risks. The to ISS’s approach, Glass Lewis relies 1500 companies that have no female survey provides alternatives including on voluntary submission rather than director representation on the board, board/management engagement, conducting an annual formal survey. subject to certain mitigating factors. supporting related shareholder

www.kingsdaleadvisors.com 2019 Proxy Season Review | 29 PROXY FIGHT PROXY FIGHT PROXY FIGHT

• With 7% ownership, disgruntled • The Concerned Shareholders of • Waterton Global Resource director Meir Jakobsohn (through his Guyana Goldfields Inc. requisitioned Management, the second largest private company Medison Biotech), a meeting of shareholders after the investor in Hudbay Minerals Inc., sought six of seven board seats and former chairman was removed and the nominated ten (later revised to four) a new strategic direction at Knight incumbent board oversaw a period of individuals at the company’s AGM, Therapeutics Inc.’s AGM significant value destruction criticizing board entrenchment and • Jakobsohn also introduced a shareholder • Kingsdale won early support from poor performance vs. peers proposal designed to remove the founder shareholders and dominated the • Kingsdale advised on the use of a and CEO from the company media agenda with a pro-active universal proxy, organized an aggressive • With Jakobsohn launching a social media strategy – including a comprehensive top shareholder outreach strategy, and and PR campaign, Kingsdale’s strategic press release strategy and digital prepared Waterton for critical meetings communications, media, and shareholder campaign – designed to pressure with ISS and Glass Lewis outreach strategy highlighted Knight’s the company • Hudbay and Waterton entered into strong performance, track record, and • Resulted in a settlement, with the CEO a settlement agreement whereby risk of change who had been targeted leaving as both parties agreed on 11 nominees – • Resulted in all management’s director well as a new board, with five of seven including three Waterton nominees – and nominees being elected, Jakobsohn directors replaced since the proxy Hudbay committed to finding a successor not being re-elected, and the fight was launched to the long-tenured board chair shareholder proposal being soundly defeated

PROXY FIGHT PROXY FIGHT CONTESTED M&A

• Mangrove Partners and Bluescape • Just weeks before Methanex • Ensign Energy Services Inc., a 9.8% Energy Partners, together owning Corporation’s AGM, M&G Investments, shareholder of Trinidad Drilling Ltd., approximately 10% of TransAlta the company’s largest shareholder made an unsolicited all-cash bid for Corporation’s shares, announced with 16.5%, nominated four individuals Trinidad Drilling their intention to nominate five out of to the board as a means of thwarting • Trinidad rejected the offer, instead 11 directors at the company’s AGSM, a potential new project opting for Precision Drilling’s white attacking TransAlta’s share performance • M&G targeted long-tenured knight all-stock offer • On March 25, 2019 TransAlta directors, arguing that they lacked • Kingsdale advised on a strategy announced a strategic investment independence whereby Ensign shortened the by Brookfield Renewable Partners • Kingsdale led the process of engaging bid period to ensure shareholders which the activists publicly opposed; ISS and Glass Lewis, developing tendered before a vote on Precision the agreement provided for the shareholder communication assets Drilling’s offer appointment of two Brookfield and getting key messages out to • With the shortened bid period, nominees to the board shareholders, garnering overwhelming Kingsdale mounted a fire-drill • Mangrove announced its intention to support behind the scenes outreach and PR campaign and withhold votes from TransAlta’s special • Resulted in Methanex and M&G reached a majority of shareholders, committee members entering into a cooperation who tendered before Trinidad could • Through the development of a white agreement, two weeks before the vote on Precision’s offer paper for ISS and Glass Lewis and meeting, whereby M&G received one • Resulted in Ensign owning almost a proactive outreach campaign, out of 11 board seats at the meeting, 90% of the outstanding shares of Kingsdale helped ensure all of and an additional seat being mutually Trinidad, subsequent to the mandatory management’s director nominees were agreed to through future board extension, and completion of the elected and a high-water mark for refreshment amalgamation shareholder turnout was reached

30 | 2019 Proxy Season Review www.kingsdaleadvisors.com AN UNMATCHED BREADTH OF EXPERIENCE Select Recent Client Wins

CONTESTED M&A CONTESTED M&A

• Canopy Growth Corporation and • In January 2019, Newmont Mining Acreage Holdings, Inc. announced a plan Corp. announced plans to buy of arrangement as part of a first-of-its- Goldcorp Inc. in a US$10 billion kind cross-border deal whereby Canopy acquisition, a deal that would create would acquire Acreage upon federal the world’s largest gold company permissibility of cannabis in the U.S. • Paulson & Co., a major shareholder • The initial announcement was met of Newmont, publicly opposed the with confusion from the market and merger and, in March, Barrick Gold public opposition from Marcato attempted to scuttle the deal with an Capital Management unsolicited takeover bid for Newmont • Following the initial announcement, • Kingsdale advised on a strategy for and given the complexity of the deal, ISS and Glass Lewis which resulted in both companies hired Kingsdale both proxy advisors recommending • Kingsdale developed a comprehensive that shareholders vote for the traditional and digital communications Newmont transaction strategy to clear up the confusion • Kingsdale successfully launched an in the market, and implemented an aggressive outreach campaign to aggressive, retail-heavy outreach Goldcorp shareholders that resulted campaign in more than 97% of the shares being • Resulted in shareholders of both voted in favour of the deal companies voting overwhelmingly in favour of the deal

BALANCE SHEET PLAN OF ARRANGEMENT AND RESTRUCTURING SUPPORT RECAPITALIZATION RECAPITALIZATION TRANSACTION

• Jupiter Resources Inc. proposed • Three years after filing for credit • In March 2019, Bellatrix Exploration a recapitalization plan by way of a protection, Essar Algoma Steel received Ltd. announced a recapitalization plan corporate plan of arrangement to a credit bid whereby noteholders and involving the consolidation of common exchange US$1.1 billion 8.5% term lenders would acquire the assets shares, the exchange of convertible senior notes for equity in a new of the company debentures for new common shares, private company • After failed attempts to work with the exchange of senior unsecured notes • Kingsdale was engaged as Jupiter’s trustee to move the credit bid forward, for new third lien notes and new exchange and escrow agent and Kingsdale was retained as an exchange common shares created a system for holders to and escrow agent to facilitate the bid in • Kingsdale was engaged as the provide beneficial ownership a short period of time, as agreements company’s proxy, information, details through the custodian with the federal government and labour and exchange agent, and worked network, established a process to unions were set to expire seamlessly with the transaction’s enable creditors to elect whether • Since the new securities were held on two trustees, one transfer agent, to participate in a subscription the books of a Luxembourg registrar, and three depositories, to develop for additional equity, captured Kingsdale worked with counsel to create a straightforward process for registration instructions for new a process to facilitate exchange for implementation and settlement private equity, maintained the considerations under Luxembourg law • The transaction was supported by participation records, calculated • Kingsdale expedited DTC processing 88.47% of the common shareholders, all netted entitlements, and settled to ensure smooth settlement and 99.51% of the convertible debenture entitlements with creditors convinced the trustee to process what holders, and 100% of the senior • The settlement occurred without was a one-off transaction deviating secured noteholders, with vote any operational issues with 99.67% from their standard processes turnout at 88.13% for the convertible of US$1.1 billion of senior notes debentures and 99.50% of the senior • Credit bid was successfully completed providing registration instructions unsecured noteholders within required timeframe

www.kingsdaleadvisors.com 2019 Proxy Season Review | 31 32 | 2019 Proxy Season Review www.kingsdaleadvisors.com UNDERSTANDING THE IMPACT OF AMERICA’S CLAMPDOWN ON PROXY ADVISORS

n 2003, the U.S. Securities & Exchange clearly interested in reforms that would takes not only a significant financial Commission (SEC) put forward a rule “rebalance” the role of the proxy advisors investment but also a tremendous that required institutional investors and “protect the interests of the broader knowledge base, it is unlikely any new to disclose their votes and provide shareholder universe”. U.S. politicians entrant or even one of the smaller an explanation as to why they voted had previously advanced this agenda players will shift this balance any time Ithe way they did. This paved the way by introducing bills – such as House Bill soon. From routine annual meetings for the rapid growth and influence of 4015, introduced in 2017 and passed in to contested situations to a rapidly proxy advisors such as Institutional 2018, and Senate Bill 3614, introduced increasing focus on environmental, Shareholder Services, Inc. (ISS) and in fall 2018 – requiring proxy advisors social, and governance (ESG) issues, Glass Lewis, & Co. (Glass Lewis), which to register with the SEC, among other ISS and Glass Lewis are seen by critics quickly became a cost- and time- things. While none of these bills became as being able to impose on corporate effective resource for funds seeking to law, they have helped to fan the flames America the will of certain shareholders, rationalize their vote decisions. of public attention on an issue most especially those with special or activist average investors know nothing about. interests, which may or may not be Today, the SEC has once again shifted aligned with the best interests of the the paradigm by declaring that proxy It is estimated that ISS and Glass Lewis company and other shareholders. By voting advice provided by proxy advisory have more than 97% market share in the their subscribers, they are seen as firms generally constitutes a “solicitation” proxy advisory space, with Egan-Jones, an irreplaceable partner in helping to under U.S. federal proxy rules and by Segal Marco Advisors, and ProxyVote ensure high governance standards and issuing guidelines for investment advisors Plus making up the balance, with many an accountability check on companies to follow when voting for their clients. investors subscribing to more than one. that might otherwise go unchecked and When the SEC started its process, it was As establishing a proxy advisory firm become another Enron.

www.kingsdaleadvisors.com 2019 Proxy Season Review | 33 How Did We Get Here? We do not believe curbing independent research that is entirely paid for by While calls to regulate or “crack down” on approach, adding a new, hidden layer of subscribers is the most urgent matter proxy advisors are not necessarily new – complexity to their formula. This can be that securities regulators on either side indeed, they have flared up from time to massively frustrating for boards that are of the border should be focused on. time over the last 15 years – the present trying to thread the needle by formulating Proxy advisors play an important role debate has been stoked by a confluence shareholder proposals that are both the in the capital markets by providing a of combustible factors. A series of right thing for the business and will win check and balance on the evolution of high-profile, controversial decisions over ISS and Glass Lewis. governance practices and, at the end of from proxy advisors, complaints from the day, shareholders are free to follow well-funded companies about “mistakes”, When you add in so-called robo-voting or not follow their advice as they see fit. a business-friendly administration in the (where shareholders are set to auto-vote Kingsdale Advisors White House, and a general populist their proxies based on a proxy advisor’s mood in the U.S. led SEC Commissioner, recommendation) and the challenges Elad Roisman, to call the vote of correcting what is seen as incorrect recommendation process led by proxy commentary, the frustration related to advisors “complex” and “unreliable”. the inability to alter an influential but opaque process is compounded. Critics argue that unless you have spent years in the industry, and inside the proxy advisors themselves, there is little transparency about how they construct their analysis and resulting vote recommendations. Once you figure it out, chances are they’ll change their

The Case for Regulation Led by high-profile organizations such at each proxy advisor, requiring the While ISS and Glass Lewis have as the U.S. Chamber of Commerce, the filing of documents with the SEC, and a become data points for further internal National Association of Manufacturers, general prohibition on “unfair, coercive, analysis, they are no longer seen as NASDAQ, and the New York Stock or abusive practices”. the ultimate decision-makers on how Exchange, the campaign against proxy shareholders vote. advisors hinges on fairness to corporate At the very least, supporters of America and the small retail shareholders regulation have suggested that providing It is worth noting that for all the talk whose interests they have co-opted to voting guidance should be considered of conflicts of interest, a lack of validate their cause. as proxy solicitation and should follow transparency, and factual errors in their applicable SEC rules and that proxy analytical processes, most of it does Specifically, these groups argue advisors should disclose and protect not appear to be coming from the most that companies should have more against conflicts of interest – a view the important part of the proxy advisor ability to address proxy advisors’ SEC has taken heed of. and shareholder voting equation: those recommendations before they are handed who are actually paying for the vote to shareholders, and perceived conflicts In the end, whether or not you subscribe recommendations. At an SEC roundtable of interest and a lack of transparency to this view depends on whether or held in November 2018, investors must be openly addressed. For example, not you believe a proxy advisor has expressed general satisfaction with the ISS has been singled out because it sells the capability to sufficiently evaluate service provided by proxy advisors. consulting services to companies via the issues they are presented with ISS Corporate Solutions (ICS) while also and whether or not you believe the providing vote recommendations on the investors who subscribe have the time, same companies. resources, and competency to analyze the recommendations given. Proponents for regulation even launched a million-dollar ad campaign and website Anecdotally, at Kingsdale, we know, from (www.proxyreforms.com) designed to put our conversations with shareholders the spotlight on proxy advisors and their and from witnessing the expansion purported shortcomings, positioning of in-house governance teams, that them as unregulated, secretive entities shareholders are taking back the prone to mistakes and conflicts of decision-making process (to the extent interest that “put the retirement savings it ever really left) as governance is of hardworking Americans at risk”. increasingly seen not only as a risk mitigation screen but also as a lever to Numerous solutions to these concerns create value. Custom voting policies are have been presented, including being designed and refined to reflect registering with the SEC, establishing underlying client appetites and to create an ombudsman and compliance officer a competitive advantage.

34 | 2019 Proxy Season Review www.kingsdaleadvisors.com SEC Clampdown: Guidelines, Not More What Do the Statistics Say? nfortunately for the advocates of regulation, the statistics do not back up their thesis Regulation of blind voting, with evidence that shareholders make their own decisions, especially Uin contested situations when the stakes are presumably higher. On August 21, 2019, the SEC issued two sets of new guidelines to address Large Fund Adherence to ISS and Glass Lewis these issues and clarify how various HOW THEY VOTED ON BOARD SEATS entities can comply with existing laws or regulations that it believes % Supports % Matches % Matches apply. Specifically, the SEC issued Management ISS Glass Lewis an interpretation clarifying why it BlackRock 91.00% 93.20% 85.80% believes proxy advisory firms’ advice Vanguard 93.90% 94.90% 85.10% is considered “solicitation”, or a Charles Schwab 87.80% 88.40% 98.30% “communication to security holders State Street 88.50% 93.00% 84.40% under circumstances reasonably Fidelity 90.00% 91.70% 86.90% calculated to result in the procurement, PIMCO 89.10% 96.10% 86.40% withholding or revocation of a proxy”. Invesco 92.20% 96.40% 90.70% As such, existing regulations require Northern Trust 90.40% 96.50% 86.10% such entities to provide underlying First Trust 93.10% 99.90% 92.90% facts, reasoning, and assumptions to Van Eck 83.10% 85.30% 98.60% demonstrate that their advice is not misleading. The SEC also clarified HOW THEY VOTED ON SAY-ON-PAY that proxy advisors cannot share recommendations that are materially % Supports % Matches % Matches false or misleading under the applicable Management ISS Glass Lewis federal rules. BlackRock 91.00% 86.10% 79.90% Vanguard 93.90% 89.20% 83.80% In addition, the SEC issued guidance to Charles Schwab 87.30% 85.10% 97.80% assist investment advisors in fulfilling State Street 88.50% 91.00% 82.00% their proxy voting responsibilities. Fidelity 90.00% 85.60% 82.80% The guidance did not impose any new PIMCO 89.10% 96.90% 83.50% requirements on asset managers but Invesco 92.20% 94.00% 87.00% provided ways they can oversee proxy Northern Trust 90.40% 88.30% 81.90% advisory firms and fulfill their fiduciary First Trust 93.10% 99.70% 87.90% duty to their clients. Of note, they offer Van Eck 83.10% 81.90% 99.10% guidance for investment advisors on how to judge whether retaining a proxy advisor is appropriate, actions to take if HOW THEY VOTED ON CONTESTED SITUATIONS they believe a proxy advisor has made % Supports % Matches % Matches an error of fact or omission, and how Management ISS Glass Lewis to evaluate the service provided on an BlackRock 70.77% 64.77% 69.35% ongoing basis. Vanguard 75.44% 64.94% 70.30% Charles Schwab 57.48% 79.17% 93.50% SEC Guidelines for ISS State Street 76.79% 64.19% 67.68% Fidelity 70.83% 66.18% 71.83% and Glass Lewis PIMCO 75.00% 62.50% 37.50% Invesco 65.22% 84.44% 68.89% Proxy advisors should consider disclosing: Northern Trust 73.48% 71.52% 62.29% • Methodology used to formulate First Trust 50.00% 100.00% 66.67% advice and deviations from Van Eck 68.42% 81.25% 86.84% previous guidelines • Third-party sources used Companies listed in order of AUM • The extent to which third-party As the tables above show, the largest deviations from ISS and Glass Lewis occurred in materials were factored in contested situations where there is more choice and more analysis required. • Conflicts of interest In the high profile example of the 2018 proxy battle between Cation Capital and Crescent • That such conflicts of interest Point Energy Corp. (TSX:CPG), Crescent Point’s full management slate was elected despite be explained in “reasonably ISS’s recommendation for two activist nominees, while say-on-pay was defeated in line sufficient detail” with ISS’s recommendation “against”. Even on routine matters where the voting is presumably much more straightforward, the world’s largest investors still demonstrate their independent mindset. To the extent there is vote alignment, it does not mean blind adherence, just agreement on the right voting decision between multiple entities – including, in many instances, management. We also don’t know if this is simply a correlation or causation.

www.kingsdaleadvisors.com 2019 Proxy Season Review | 35 Kingsdale’s Take

As critics of proxy advisory firms have who they have contracted to provide • Understand how shareholders make called the SEC’s guidelines a “first step” services. Presumably, if the service their voting decisions, what their and expressed the desire to see it and providers are getting it wrong, their internal voting policies are, and the other regulators take further action, clients will take them to task and policies extent to which they deviate from the we do not believe this issue has gone will be updated via their respective proxy advisors away. Yes, it may quiet down as the annual survey processes. market digests the impact, but once a • Seek to engage the proxy advisors controversial decision again comes into Proxy advisors are providing what their outside of proxy season to ensure the spotlight, it is likely business groups subscribers have requested – advice their analysts are well versed in your will again drive forward for full regulation. that fits within the scope they have company and its industry defined for how they want to vote on If further, more formal changes were to be certain matters. They are not looking for • Make use of ISS’s draft review process made in the U.S., maintaining the status additional commentary or arguments (for TSX Composite Index companies) quo in Canada would be challenging, as from management – that is already and the pre-publication review of annual Canadian regulators would likely come available to them in the company’s proxy meeting reports under pressure to enact similar reforms solicitation materials and from direct and proactively move to adopt the new engagement with management itself. If a • Sign up for the Glass Lewis issuer data practices in this market. company wants to ensure ISS and Glass report to review certain displayed data Lewis provide clarity beyond the proxy (but not the analysis of the report) In our view, the key issue is not the proxy materials they have filed, they have the advisors themselves but whether or opportunity to discuss it with them and • Make clear disclosure (mainly via proxy not a company believes a shareholder to file additional information at any point materials) to justify the decisions made is capable of making a fully informed prior to, or after, the release of the proxy by your board decision, regardless of what ISS and advisors’ reports. Glass Lewis might say. It is akin to an athlete lamenting one call by a referee We indeed note the sensitivities around in the final seconds of the fourth quarter this topic, given that a small number when the team did nothing to help its of auto-votes can greatly impact the chances of winning for the first 99% of outcome of a proxy battle. the game. Don’t put yourself in a situation where someone else can decide your fate. Anecdotally, we have found that in certain situations, such as a contested The most common mistake we see is a vote or a questionable say-on- lack of – or imprecise – disclosure by the pay recommendation, subscribing issuer leading to analysis by the proxy shareholders are willing to hear an advisors that the issuer deems unfair. alternative argument from the company Make your case thoroughly and clearly. on why their circumstance should be considered unique. After all, with Proxy advisors have a role to play in hundreds of millions if not billions the capital markets by providing a invested, why wouldn’t they want to check and balance on the evolution of ensure they get it right? governance practices and, at the end of the day, shareholders are free to We would be more inclined to give follow or not follow their advice as they credence to the concerns raised if there see fit. Weakening the proxy advisors were evidence that “passive” investing won’t result in weakening the votes for a meant more passive voting and deferral company, only those against a company. to the proxy advisors alone, without sober second thought, but that does not We do not believe shareholders are looking appear to be the case. for politicians to dictate a structure that tells them how to interact with a private It is incumbent on companies service provider they have contracted. concerned about ISS and Glass Lewis Regulating or restricting an independent to take accountability for ensuring their third party from providing voting advice shareholders are fully informed before a would be like regulating the editorials of vote – in fact, well before. Here is what we newspapers during political elections recommend: who espouse their views on how people should vote. We believe shareholders are • Actively engage shareholders so the more than capable of making their own voices of ISS and Glass Lewis are not judgments and critically reviewing the heard in isolation analysis they receive – if they choose to. • Understand ISS and Glass Lewis To the extent further change is policies and to what extent the unique demanded, that change should be within circumstances of your company will be the purview of the subscriber and those considered in their analysis

36 | 2019 Proxy Season Review www.kingsdaleadvisors.com A GOLD RUSH FOR ACTIVIST INVESTORS

f you are part of the board or struggling gold miners, with part of the management of a Canadian gold shareholders’ basis for change related to company this year, chances are you have the viability of M&A opportunities. Over been discussing industry consolidation the past 28 months, there have been and/or unhappy shareholders. 15 proxy battles in this sector, launched I by activists who claim to have suffered Over the past year, we’ve seen through years of value destruction, failed behemoths Barrick Gold Corp. (TSX:ABX) acquisitions, mismanaged permitting, and Newmont Mining Corp. (now and misaligned compensation schemes. Newmont Goldcorp Corp. (TSX: NGT)) High-profile proxy contests included grab headlines with acquisitions of Detour Gold Corp. (TSX:DGC), Guyana Randgold Resources Ltd. and Goldcorp Goldfields Inc. (TSX:GUY), and Hudbay Inc., respectively, and the junior and Minerals Inc. (TSX:HBM), an integrated intermediate space has seen a flurry of mining company with some exposure to deals as well. In fact, since Q4, 2018, gold that is nonetheless instructive. we have seen over $27 billion in deals involving Canadian-listed companies More often than not, activists are winning announced in the gold industry. these battles. Of the 14 proxy contests completed since 2017, activists have earned At the same time, shareholders have at least partial victories in ten battles. launched high-profile campaigns against

Figure U Gold Sector: Proxy Contest Outcome (2017–2019) Management Win Activist Partial Win Activist Win

4 7

3

Gold Miners Beware: Activists May Still Be Lurking

Even as share prices have recently York-based hedge fund, Paulson & Co. improved, directors and management Inc., and activist funds, Coast Capital cannot afford to be complacent. An and Livermore Partners, established improved share price can only serve to buy with a mandate to monitor and report them time to address ongoing underlying on the governance and performance of issues that range from operational gold miners. The group has fired public to governance – it cannot appease a relations salvos against gold companies shareholder with a taste for change. for their perceived governance weaknesses, in particular, executive Today’s gold activists are, for the most compensation and the lack of stock part, unclassifiable. They can be anyone ownership among board members. – from a well-known fund to a former insider to an average shareholder willing Despite this increased scrutiny, too to organize. What they have in common is many miners remain unprepared to deal the ability to engage other shareholders, with potential activists because of a industry expertise, media savvy, and the misguided presumption of shareholder resources and stomach to embark on a support, a lack of awareness about lengthy proxy contest. what they could be doing proactively to prepare, or an erroneous belief that they Late last year, we saw the formation of could never become a target. the Shareholders’ Gold Council (SGC), a group of 17 gold investors including New

www.kingsdaleadvisors.com 2019 Proxy Season Review | 37 Kingsdale’s Take

For years, we have heard shareholders SWOT analysis and put your company communicating their strategy with voice a growing list of concerns that too in a constant state of internal review, institutional investors and appealing to often fall on deaf ears. The persistence with an eye towards identifying their unique preferences. of what shareholders see as repeated flashpoints that could attract activists. and avoidable errors, either in operations • Ensure alignment with shareholders. or judgment, are leading more and more • Don’t underperform on the things Pay-for-performance and performance investors to a breaking point. you can control. Leverage to share units initiatives for executives the commodity price means gold remain the best way to hold board Over and over, we have heard companies gain more when the members accountable and align shareholders complain – first privately gold price increases and lose more their goals with shareholders’ goals. and now, increasingly, publicly – about when the price decreases. It is also Total shareholder return (TSR) also sustained poor performance vs. peers or why missing production guidance, remains a popular vesting criterion the index; poor market guidance; project delayed project timelines, and mine due to its objectivity and simplicity. delays; capital overruns; inability to cost overruns hurt more, as they In a leveraged industry where critics secure “routine” permits and negotiate consume valuable capital and delay accuse management of hiding behind licences; and excessive compensation. the all-important free cashflow. In the commodity prices, these measures past, management has been able to reinforce management’s commitment When you layer onto these frustrations use leverage to the commodity price to shareholder value. a series of performance issues, of gold to take credit for share price concerns about boards with little to increases during market upturns and • Ensure the right directors for no share ownership, long tenures, defer responsibility on the downturns. the right time. Shareholders view “entrenchment”, and a cozy relationship That era is over; management needs an ongoing commitment to board between too many directors, it is no to be seen as building value in a down refreshment as an indication the board wonder that shareholders have grown cycle by being proactive on securing has the up-to-date technical expertise restless. Put another way, investors have social licence, investing in technology and fresh thinking it needs. ISS and lost faith in the ability of the boards of and processes to drive down all- Glass Lewis will likely look negatively gold mining companies to manage risk in sustaining costs, and increasing on companies with more than one-third and are seeking out ways to push reserves, while remaining prudent on of their board having a tenure of nine for change. capital decisions by setting stringent or more years, and some shareholders hurdle rates for capital investment. have even more stringent views. Having The good news is that there are directors experienced in each stage proactive steps boards can take to • Understand your shareholders. of the mining lifecycle can align with defend against activists. Knowing who your shareholders prudent refresh timelines. are is one thing, but understanding • Undertake a deep and critical their concerns is quite another. What the recent activist campaigns self-analysis. Activist investors are Shareholders want to know you are have proven is that any gold company, calling out gold companies and their listening – which means demonstrating no matter its profile, size, or asset base, boards for a lack of “skin in the game”, you have considered and acted on can be an activist target. Our advice prolonged value destruction, missed their concerns to the extent they are to boards across Canada is simple: Be guidance, failed life-of-mine plans, consistent with the company’s strategy prepared; the decisions you make today and, ultimately, a lack of director and path to value creation. Companies can have long-lasting consequences. accountability. Go beyond a simple must place renewed importance on FALL OF THE IVORY TOWER: WHY CONTROLLED COMPANIES ARE NOT IMMUNE FROM SHAREHOLDER ACTIVISM

espite longstanding complaints Companies that were set up to running the business – not just in terms about governance and the tyranny inoculate themselves from the whims of of current performance, but also in a lack of a few who may or may not hold shareholders have now become targets. of willingness to explore other accretive a meaningful economic interest in Even if directors aren’t at risk of losing opportunities that may impact the the company they founded and/or their seats in a vote, they are at risk controller’s vision for the company and Dnow control, investors have continued to of losing their reputations and being status quo. choose to put their money in controlled embarrassed into change. or quasi-controlled companies. What has Many of today’s controlled and quasi- changed is that minority shareholders While governance concerns usually controlled companies found their genesis are no longer content to sit quietly provide the thin edge of the wedge in family enterprises that grew beyond and go along for the ride, increasingly to begin the advancement of change, the bounds of private ownership to demonstrating they are willing to pull on the underlying driver for a minority embrace the opportunities of external the few levers of activism and change shareholder is usually a dissatisfaction capital and diversified ownership, for available at these companies. with the way the controlling entity is better or worse.

38 | 2019 Proxy Season Review www.kingsdaleadvisors.com Given strong, centralized leadership shareholder base and market about the from proven entrepreneur-managers, actions of the current management. How We Define Control senior management, and closely aligned A controlled company is commonly directors, the boards of these companies So far, 2019 has seen the greatest defined as a corporation where more have traditionally seen themselves as frequency of say-on-pay proposals than 50% of voting power is held by a only marginally accountable to minority received by controlled issuers. single person, entity, or group. This may shareholders that held slivers of “their Furthermore, 2019 has seen an be facilitated through a dual-class share company”. But all of this is starting to unprecedented level of shareholder structure or outright ownership of the transform as shareholders have begun support, with an average of 24.95%, majority of an issuer’s common shares outstanding. testing the waters for change. The fact compared to 20.65% in 2017 and 17.68% is, controlled companies are no longer in 2015, years that had comparable A wider concept of control may also impenetrable. But will they realize this? volumes of proposals. include quasi-controlled companies, wherein a stake of 20% or greater is held And if not, at what cost? by a single person, entity, or group. As the year has yet to end, we expect Both types of controlled groups are A general awareness of the tools of further say-on-pay proposals, which largely comprised of enterprises that were shareholder activism, the advent of could break the high-water mark for once family-operated or those that have a advocacy and advisory groups who shareholder support seen at Linamar strategic partner with a large ownership target ESG issues at public companies Corporation’s (TSX:LNR) 2019 AGM, stake. Despite partially divesting their (especially those who are seen as where almost 39% of shareholders voted significant ownership stakes, these governance laggards), and advancing in favour of implementing say-on-pay. families and stakeholders still maintain extraordinary influence over operating regulations related to disclosure facets of these companies, from day-to- and transparency have created Activists have developed an appetite and day strategy to overarching governance, an environment where controlled motivation for chasing difficult targets. largely influencing how the board is companies are exposed, at least from constituted, and the respective board and a reputational perspective. While it is committee mandates. unlikely a shareholder proposal related to something like executive pay disclosure would pass, it could serve to embarrass the company and educate the broader

Why Controlled Companies Are Vulnerable to Change: The Adapted Activist Playbook

Pursuing an activist course of action at A single campaign tied to a shareholder • Undermine the image of the current controlled companies presents a unique proposal or a withhold campaign board and controlling shareholder as set of challenges that often require some targeted at a specific director may not competent business managers creativity on the part of the minority result in immediate substantive change, shareholder. Given the significant obstacles but can act as a disciplinary mechanism • Identify and exploit divides to immediate and meaningful change, by publicly shaming the board, serve between independent directors these challenges result in what are often as a lightning rod to attract and expose and the controlling shareholder’s seen as “against all odds” campaigns. broader shareholder opposition that representatives would be useful in a future campaign, Shareholders who target controlled or be used as a bargaining chip or • Where familial relationships exist, companies modulate their campaigns lever to obtain smaller, more gradual, seek to divide the family members or with the understanding that it will often changes, such as adding new, position them against other directors require a long, multi-staged process to independent members to the board or advance change. Given that influencing adjusting executive pay to reflect market • Demonstrate unfair and abusive meaningful change in a single instance realities. Through this lens, a successful treatment of minority shareholders of activism is likely impossible, from campaign may not be one that passes, a pragmatic standpoint, controlled just one that exposes a controlled • Shine a spotlight on what is seen as company activist tactics and goals company’s entrenchment and opens the “self-dealing” in exposing related party differ from those of traditional activists. eyes of the controlling entity. transactions Tactically, activists will rely on informal avenues for change while aiming for As such, when private pressure fails, • Demonstrate a divide between top more incremental objectives. an activist’s strategy at a controlled management and the average worker company usually centres on exacting on pay issues Absent conventional proxy fight and maximum reputational damage to force bargaining mechanisms – such as change. Such campaigns can become • Illustrate divides where board and the threat of nominating and electing a significant distraction and headache management are out of touch with an activist director or requisitioning a for the board and management to deal other stakeholder groups beyond meeting to force change – reputational with. At Kingsdale, we have observed that shareholders such as employees, damage and exposure are the primary campaigns against controlled companies unions, and the communities in which forces that an activist at a controlled generally retain a number of common they operate company can use to influence change. features, with the activist seeking to:

www.kingsdaleadvisors.com 2019 Proxy Season Review | 39 • Inflict brand damage that will impact around independence concerns to rally minority shareholders against business relations with customers, regarding the company’s executives, management culminated in over 40% of consumers, and the general public employee independence from Rio Tinto, Turquoise Hill’s minority shareholders and management of a development (including SailingStone and its significant Turquoise Hill Resources (TSX:TRQ) in Mongolia. stake) opposing the independent – with Rio Tinto plc (LSE:RIO) as its directors. Even though management’s controlling owner with a majority stake Following further exchanges between nominees were re-elected, there’s no of 50.8% – is a recent example of how the two parties, a concession was made doubt that there was some reputational pressure from a minority shareholder can whereby a new CEO was appointed, with damage inflicted. negatively impact a controlled company. significant improvements to the position’s contract and compensation structure. At the start of 2018, SailingStone Capital Partners, Turquoise Hill’s second largest SailingStone’s pressures continued again owner, with a 12.1% stake, submitted through 2019, with a release stating a letter to Turquoise Hill’s board of their intention to vote against Turquoise directors, including demands revolving Hill’s independent directors. This effort

Who Are the Activists at Controlled Companies? Specialized Shareholder Against this backdrop, it is rare that a of voting results by class of shares. traditional activist fund, which would look The support levels of these proposals Organizations Targeting for a widely dispersed shareholder base have steadily increased over the years, as one of its initial activist investment exceeding 20% for the first time in 2019, Controlled Companies screens, would attempt to take a run at with the support of many prominent here an institutional investor itself a controlled company. Instead, what we institutional shareholders, including may not be ready or willing to are seeing at controlled companies are Canada Pension Plan Investment Board Wadvance change on its own, there activist initiatives being undertaken by (CPPIB), British Columbia Investment are a number of specialized shareholder traditionally long institutional investors Management Corporation (BCI), Allianz organizations that are willing to take up its cause, particularly as it relates to improving and the shareholder advocacy groups Global Investors, RBC Global Asset corporate governance practices. that represent them. Management, and BMO Global Asset Management. These include numerous institutional and retail-oriented advocacy groups, with varying By way of example, Bombardier Inc. degrees of influence, such as Shareholder (TSX:BBD.B), of which the Bombardier In 2019, Bombardier also received a Association for Research & Education family controls 48.43% of voting rights, proposal from Mouvement d’éducation et (SHARE), MÉDAC, and Æquo Shareholder has received multiple shareholder de défense des actionnaires (MÉDAC) to Engagement Services (Æquo). Each of these proposals over the past four years, collapse its dual-class share structure, organizations serves to rally shareholders who may be irritated by poor governance practices including proposals asking for more which received the support of 21.7% and previous snubs at suggested changes, transparency, namely separate disclosure of shareholders. and may now be even further irritated by poor company performance. SHARE, MÉDAC, and Æquo orchestrate Conflicting Perceptions on Corporate Governance the proposal process on behalf of these shareholders, acting as project lead and advocate during attempts to implement at Controlled Companies say-on-pay votes or popular environmental and social initiatives. By offering a unified There are conflicting views between the appropriate for the controlled company voice for discontented shareholders, controlling and the controlled about what they freely invested in. these specialists have repeatedly plagued should constitute not necessarily “best” the management teams of various target but “appropriate” governance practices From the minority shareholder’s controlled companies throughout recent at controlled companies. perspective, basic corporate governance years. Beyond helping shareholders advance certain issues via proposals, these entities standards are a mechanism to limit the have also attempted to provide guidance From the control block’s perspective, wanton and destructive use of public for best practices for controlled companies, control is king, and corporate governance entities for the sole benefit of those including yearly updates to policies crafted best practices – as defined by the holding a control position. Unchecked, and endorsed by their governance teams. broader market of widely held public a controlled board can easily fall As proposals are received by controlled companies – are a limiting mechanism down a path that results in significant companies with increasing frequency, it is that often force companies to take an value destruction, as was the case clear the market has an appetite for this unnecessarily short-term perspective and at Bombardier after management’s behaviour and understands the long horizon required for change. As such, SHARE, MÉDAC, increased risk. Controlled companies questionable gamble on commercial and Æquo will continue to push their agendas argue that shareholders knew the aircraft contracts several years ago. at controlled companies. structure they were investing in and, Bombardier’s stock has subsequently presumably with a controlling stake collapsed, losing 66% of its value discount attached, liked it enough to following a high in June 2018, as the invest. Just because some corporate company shifts towards business governance fad is overtaking other parts aircraft and a reinvigoration of its rail of the market doesn’t mean that it is manufacturing.

40 | 2019 Proxy Season Review www.kingsdaleadvisors.com These two views – and their willingness the Canadian market, such as CGI Inc. metrics as a shield for weak corporate to tolerate each other’s positions – are (TSX:GIB.A) or Alimentation Couche- governance practices, leveraging the continuously influenced by a few key Tard Inc. (TSX:ATD.A), whereby company’s successes against a need to situational factors. In addition to the control is maintained through the use act on governance issues. In other words, extent and severity of governance of multiple voting shares. This share what the world sees as a “best practice” failings and the voting power of the structure effectively prevents dilution may not be right for us as a controlled controlling stakeholder, the company’s of control positions by mechanisms, company and, as proof, look at our performance on a short- and long-term such as an equity issuance or option continued results. Stop complaining and basis are also key. exercise, that diminish individual minority don’t ruin a good thing. shareholdings. First, the nature of the controlling stake, There is a belief that the level of in combination with the dynamics of The unassailability of these control control exerted can be of benefit to alignment and engagement between positions and the corresponding all shareholders, as it presents the minority shareholders and the control influence wielded in company-wide opportunity for strong leadership to block and the board, influences the votes can be used as an excuse by effectively dictate strategy, absent the perspective of minority shareholders. For management and the board not to many hurdles that challenge widely example, do controlling entities retain engage with minority shareholders held companies. their position based upon economic and can become, particularly during parity of ownership, or are their control periods of poor performance, a point of In support of this argument, a September positions a function of multiple share disagreement around M&A opportunities 2018 report issued by the National Bank classes, which have been criticized or decisions regarding strategic direction. of Canada, “The Family Advantage”, found as largely undemocratic? Recently, that over the last 13 years, family-controlled some companies have collapsed dual, Second, as at most companies, strong public companies have outperformed the or multiple, share class structures to performance can increase shareholder TSX Composite Index, with an annualized provide a more egalitarian ownership tolerance for poor governance return of 9.0% versus 6.7%. structure, linking voting rights directly perspectives. But even if it doesn’t to economic interest in the company. and a company is attacked, controlling However, examples still exist within shareholders will use strong performance

2019 SUPPORT FOR SAY-ON-PAY PROPOSALS Activist Flashpoint: Say-on-Pay AT CONTROLLED COMPANIES

In recent years, the most significant As of now, every COMPANY SUPPORT point of contention between minority proposal in 2019 Linamar Corporation 38.96% and controlling shareholders has has failed at vote, Power Corporation of Canada 23.3% been the implementation of a say- with support levels CGI Inc. 22.9% on-pay vote. Although say-on-pay ranging from 1.13% Imperial Oil Ltd. 14.6% proposals remain the dominant proposal at Saputo to 38.96% received by controlled or quasi- at Linamar. Saputo Inc. 1.13% controlled companies, recent years have reflected a minority shareholder Unlike other forms of activism, where given the 41.1% control block comprised desire for increased disclosure of E&S activist campaigns are often isolated of Madison Venture Corporation (27.2%) practices, anti-takeover measures, or actions predicated by a single event, a (controlled by Glacier’s chairman, Sam director-related issues (proxy access campaign for say-on-pay has become Grippo) and Franklin Resources Inc. or declassifying boards). This focus is an annually recurring event at many (NYSE:BEN) (13.9%), both of which understandable given the continued controlled companies. supported the proposal. reluctance for controlled companies to embrace say-on-pay, requiring CGI, Alimentation Couche-Tard, shareholders to take multiple runs at and Power Corporation are frequent a company. As say-on-pay votes have recipients of these proposals, but become the generally accepted standard minority shareholders have yet to cobble in Canada, it is becoming harder and together enough support to succeed in harder for controlled companies to argue convincing management to implement against change. their demands, regardless of slowly increasing support levels. At controlled companies, say-on-pay proposals have frequently been met In one interesting case at a quasi- with cool responses from management. controlled company, Glacier Media, Inc. So far in 2019, five shareholder say-on- (TSX:GVC), minority shareholders were pay proposals have been submitted able to pass a say-on-pay proposal. In to controlled or quasi-controlled 2014, Glacier received 99.89% support companies including CGI, Linamar, Power to implement a say-on-pay vote with a Corporation of Canada (TSE:POW), notably high turnout of 75%. This indicates Saputo Inc. (TSE:SAP) and Imperial Oil near-universal support for say-on-pay Limited (TSX:IMO). at the company, an exceptional result

www.kingsdaleadvisors.com 2019 Proxy Season Review | 41 Testing the Appetite for Change: An Increase in Shareholder Proposals

Controlled companies should take note Generally, the goal of these proposals While none of these proposals passed, it is that say-on-pay proposals are just the is to force the company to indicate how a clear indication that minority shareholders beginning, with many other shareholder voting for all shareholder resolutions are determined to continue their push for initiatives being proposed, particularly breaks down in terms of dual or multiple corporate governance best practices. related to executive compensation, proxy share classes in order to potentially voting disclosure, and other board- cause the company some public related matters. For example, this year embarrassment. Similarly, controlled we took note of the increasing trend in companies like Bombardier and Saputo proposals that sought to link ESG criteria have received board-related proposals to executive pay. in 2019 suggesting that the company declare in its management proxy circular We also noted the trend around whether or not a director is independent proposals calling for company disclosure in accordance with security regulations. of dual-class voting outcomes.

Figure V Types of Shareholder Proposals Submitted to Controlled Companies Executive Compensation Proxy Voting Disclosure Board-Related Other 25

3 20 6 4 5

15 2 3 4 4 6 10 10 9 Number Proposals of 5 5 0 2017 2018 2019 Proxy Advisor and Minority Holder Influence

ISS and Glass Lewis have unique and remain staunch advocates of say-on- widely held companies. Given the positions when it comes to controlled pay implementation, regardless of whether influence that controlling shareholders companies. While they may be highly the issuer has received such a proposal. hold, proxy advisor influence is diluted critical, it is likely that their opinions will to varying degrees, depending upon have minimal practical impact, other than Furthermore, the proxy advisors are the company in question. The larger creating a public relations issue. harshly critical of non-independent the controlling holder, the greater the boards and issuers that have a dual degree of insulation the company has Although ISS and Glass Lewis understand CEO/chairman. Given that these against negative (from management’s and endorse the concept of economic individuals are often family members of perspective) recommendations from stake relative to control, and have the original founder, proxy advisors are the proxy advisors. Depending on voter historically supported proportional similarly skeptical of chairpersons with turnout, quasi-controlled companies representation, neither entity condones exorbitant payouts, as we’ve seen at may still need to engage with the proxy dual-class share structures. Any occasion many controlled companies throughout advisors in an attempt to forestall to collapse these structures will ultimately the years. negative recommendations, or in an receive ISS and Glass Lewis support, attempt to change ISS’s or Glass Lewis’s barring egregious premiums or payouts All in all, proxy advisors are staunch decisions. In high-turnout, low control wildly beyond the realm of sensibility. advocates of developing robust block ownership situations, there is still Similarly, ISS and Glass Lewis are corporate governance practices a measure of uncertainty regarding the consistent supporters of shareholder at controlled and quasi-controlled outcome of contested voting as minority proposals revolving around say-on-pay companies, consistent with those of holders still retain substantial influence.

42 | 2019 Proxy Season Review www.kingsdaleadvisors.com Why Minority Shareholder Engagement Matters

Although many controlled or quasi- implementation and minority shareholder management’s proposals. If management controlled companies may not appreciate approval, rather than the simple majority has not met minority shareholders the need for routine engagement with required for almost all other resolutions. halfway by engaging in dialogue about shareholders and proxy advisors, there This will not be problematic for benign their proposals and exploring palatable are instances where this communication cases wherein management wishes to alternatives, what incentive does the breakdown will negatively impact collapse a dual-class share structure minority shareholder have to support management initiatives. Often, changes or rename the company, but it will be management when needed? to corporate structure or M&A actions immensely problematic when minority stipulate a 66⅔% support level for shareholders are not on board with

Kingsdale’s Take As controlled and quasi-controlled We believe the market has a growing fall election, it is clear a mandatory say- companies monitor public dialogue appetite for shareholder activism at on-pay vote is now on the table in Canada. and appetite on this topic and try to controlled companies and this will read the regulatory tea leaves, they continue to increase in the coming years, As controlled and quasi-controlled will have a decision to make: Will particularly as shareholders learn to wedge companies monitor public dialogue they take say-on-pay matters into independent directors against those and appetite on this topic and try to their own hands by implementing directors loyal to the controlling entity. read the regulatory tea leaves, they will a program on their own terms prior have a decision to make: Will they take to regulatory demands? Or will they As brand image and reputation become say-on-pay matters into their own hands wait for this decision to be forced increasingly important, combined with by implementing a program on their upon them, at the behest of the a view that boards have a responsibility own terms prior to regulatory demands government and regulators? to their broader stakeholder community demonstrating a willingness to listen to and not just their controlling shareholder, minority shareholders? Or will they wait we expect more minority shareholder for this decision to be forced upon activists to be emboldened. Controlled them, at the behest of the government and quasi-controlled companies must and regulators? manoeuvre carefully within this rapidly changing climate and adjust to new Boards of controlled companies norms, or risk becoming a victim of hubris should develop and execute a minority and their own minority shareholders. shareholder outreach program to address issues, identify potential Earlier this year, the federal government vulnerabilities, seek feedback, and introduced Bill C-97 that would require objectively assess shareholder Canadian Business Corporations Act sentiment and the extent of alignment (CBCA) companies to conduct a say- with the controlling shareholder in order on-pay vote. While it is unclear what will to build support for the company before happen with this bill until after the it is needed. GROWING PAINS: NAVIGATING THE EVOLVING CANNABIS INDUSTRY

he Cannabis Act (Bill C-45) came a half months of legal sales, Canadian see even more companies entering the into effect on October 17, 2018, federal and provincial governments earned market over the next few years. making Canada only the second tax revenues in excess of $186 million. country in the world – after Uruguay – As the industry continues to grow rapidly, to fully legalize the recreational Given the immense earning potential – cannabis companies and their boards Tuse of cannabis. At Kingsdale, we will for both entrepreneurs and the Canadian must be aware of the potential governance leave it to others to debate the social government – it is no surprise that the opportunities and pitfalls that lie ahead. impacts of the new legislation. In terms of cannabis market has been flooded with economic impacts, however, year one of a large number of companies attempting Over the past year, we have witnessed the legalization “experiment” has been a to stake their claim. As of August three recurring trends that provide a rousing success. 15, there are over 200 publicly listed good indication of what to expect in the cannabis companies in Canada. With coming months for the cannabis industry: According to Arcview Market Research the legalization of edibles, beverages, increasing M&A activity, accelerated and BDS Analytics, an eye-popping and extracts slated for mid-December turnover at the senior management level $1.6 billion was spent on legal weed in the 2019, and a potential market for this following IPO, and early-phase cannabis last three months of 2018 alone. Perhaps next category of cannabis forecasted at companies struggling to implement more significantly, during the first five and $2.7 billion annually, we can expect to sound corporate governance practices.

www.kingsdaleadvisors.com 2019 Proxy Season Review | 43 Early Consolidation Fuels Growth and Speculation

Over the past year, the cannabis sector had previously made moves to diversify each Acreage share for 0.5818 of a has been subject to four instances its product mix, taking a significant stake Canopy share. Despite the contingent of public activism, a fervour of M&A in Juul Labs (leading manufacturer of nature of the deal, Canopy has treated activity, and takeover speculation. The electronic cigarettes) and a 10% stake in Acreage as a member of the family, consolidation activity has been fuelled Anheuser-Busch InBev (EBR:ABI). giving it immediate unfettered access to by companies’ desires to bulk up and Canopy’s extensive intellectual property. a growing competition for funding – Transactions within the cannabis especially as legalization spreads space haven’t all been without hurdles, Marcato Capital Management LP, across the U.S. however, particularly given the owner of approximately 1% of structural and legal issues associated Acreage’s subordinate voting shares, Many of the M&A actions we’ve seen to with cross-border and cross- immediately reacted negatively to the date haven’t constituted full buyouts, jurisdictional M&A. Canopy Growth proposed transaction, noting that it with the more common approach being Corporation’s (TSX:WEED) recent was “unbelievably lopsided in Canopy’s large equity positions with pre-emptive plan of arrangement with Acreage favour”. Proxy advisors issued split rights or additional equity convertibles. Holdings, Inc. (CSE:ACRG.U) illustrates opinions, with Glass Lewis supporting these challenges and the companies’ the transaction from the perspective For example, in March of this year, Altria creative endeavours to work around the of both Canopy and Acreage, and ISS Group Inc. (NYSE:MO) closed on its accompanying red tape. recommending Acreage shareholders $2.4 billion investment in Cronos Group vote “against”, noting that, while it Inc. (TSX:CRON) for an approximate Canopy and Acreage struck an innovative appeared that Acreage would benefit 45% interest. Beyond signalling deal whereby Canopy would pay Acreage from Canopy’s industry expertise and Cronos’s legitimacy as a leader within shareholders US$300 million in cash intellectual property, the structure of the cannabis industry and boosting the (US$2.55 per subordinate voting share) the deal presented unique challenges company’s expansion efforts, the deal as an immediate upfront option premium for Acreage. Despite such opposition, also represents a watershed moment payment and, at such time as cannabis shareholders of both companies for participants in so-called “vice” production and sale become federally approved the transaction in June. industries. Altria, one of the world’s permissible in the U.S. but within 90 largest producers of tobacco products, months, would be required to acquire

From Entrepreneurs to Operators to CEOs of Multinational Companies

Despite the industry’s infancy, we’ve three-month period ended March 31, wake of Mr. Neufeld’s departure as CEO, seen a high level of executive turnover in Mr. Linton and Canopy parted ways in Aphria’s shares closed up 5.4%, although recent months, as boards have pushed what Mr. Linton dubbed a “termination”. they have yet to recover to the near $22 aside entrepreneurial founders in favour Mere days before Mr. Linton’s firing, peak witnessed in the fall of 2018. of managers with operational skill sets Constellation’s CEO stated he wanted who can strengthen balance sheets. “a more focused long-term strategy to We note that executive turnover in the Bruce Linton, co-CEO and founder of win markets while paving a clear path to early stages of growth is not unique to Canopy, was the industry’s most high- profitability” at Canopy. the cannabis industry. We’ve seen similar profile victim. levels of turnover in other emerging Aphria Inc. (TSX:APHA) also changed sectors that have had their companies Mr. Linton founded Canopy in 2013, and the nameplates on the doors of their transition from private to public firms. subsequently built it into the leading executive offices in 2019, with both Both the tech sector in the late 1990s and cannabis company in Canada, with CEO, Vic Neufeld, and co-founder, Cole early 2000s and the blockchain industry a value of approximately $18 billion. Cacciavillani, stepping down. At the time, today have experienced high employee In 2017, Canopy found a sizeable Mr. Neufeld cited personal reasons for his attrition rates, especially at the senior investor in Constellation Brands, Inc. departure, noting that “with legalization levels. The common denominator in all (NYSE:STZ), an international producer and globalization, including a huge market these industries is the struggle to find and marketer of various alcoholic opportunity with positive developments the right balance in leadership needed beverages. Constellation initially invested in the U.S., Aphria’s next generation of to grow market share while meeting new $245 million for a 9.9% stake in Canopy leadership may take the reins”. investor expectations around everything and less than a year later, invested from profitability to governance. an additional $4 billion, increasing its There may, however, be more to the story. ownership to 38%, with further warrants Aphria had been subject to a short attack that would push its equity ownership by investors, Hindenburg Research and beyond 50%. As part of the deal, Quintessential Capital Management, Constellation was given four out of seven which alleged that Aphria had paid seats on Canopy’s board. inflated prices for the purchase of assets from insiders, causing share prices to In July 2019, despite industry-leading tumble by 50%. This massive collapse in growth over the past five years but after share price led to Aphria’s appointment of the company reported a higher-than- Irwin Simon as interim CEO and chairman expected $74 million loss in the of the board, replacing Mr. Neufeld. In the

44 | 2019 Proxy Season Review www.kingsdaleadvisors.com Corporate Governance and Regulatory Challenges

While M&A activity and management Proxy advisory firms ISS and Glass Subsequently, Namaste terminated changes in the cannabis industry Lewis have also flagged a similar set of Mr. Dollinger’s employment and dominated the headlines over the past issues: In ISS’s 2018 report on Canopy’s commenced legal action for damages, year, they have been tempered by an AGSM, the proxy advisor criticized the while initiating a strategic review. Mr. undercurrent of questionable, if not company’s lack of adequate commitment Dollinger retaliated by initiating a lawsuit illegal, practices and decisions by a to enhancing gender diversity. Similarly, against Namaste, but a settlement few operators that risk tainting the for Aurora’s 2018 AGSM, Glass Lewis quickly followed in February 2019 and industry and the directors in it. The highlighted many problematic pay the company made a series of other media spotlight on a few bad apples practices, including purely discretionary proactive changes to advance its strategy should serve as a wakeup call for boards long-term incentive awards, the absence and restore shareholder value. to not only focus on their oversight of a clawback provision, and a drastic responsibilities but also to double down increase in fixed pay quantum slated for Boards should also be aware that on corporate governance best practices. the following year. regulatory risk has gained increased attention from shareholders. Despite Public confidence in the cannabis Perhaps the most extreme example of efforts to ensure proper checks and industry has been maintained by rampant corporate governance issues measures, there is increasing speculation compelling capital raises and market remains the debacle that unravelled at and evidence that regulatory problems optimism. However, as the initial Namaste Technologies Inc. (TSXV:N) are rampant in the industry. While gloss begins to fade, with increased over the last year, as catalyzed by its now relatively minor infringements may competition, slowing growth rates, and terminated CEO, Sean Dollinger. The first escape public view, the debacle at continuing legalization delays in the U.S., cracks began to appear in September 2018 CannTrust Holdings Inc. (TSX:TRST) is focus is beginning to shift to how these after a news report claimed that Namaste a stark example of non-compliance that companies are run, particularly with wider was in violation of Quebec law pertaining has left shareholders wondering how institutional investment and the higher to the sale of unauthorized cannabis. the board could not have known. In July, expectations that come with it. CannTrust halted sales of all cannabis In October, short-seller Citron Research products following a Health Canada Unfortunately, cannabis companies have released a report alleging fraud at a investigation into illegal growing activities a long way to go as evidenced by The massive scale throughout the organization, that saw the company growing thousands Globe and Mail’s “Board Games” report, punctuated by a particularly damning of kilograms of pot in unlicensed rooms. an annual ranking of Canada’s TSX statement regarding Mr. Dollinger: “Rarely These findings led to an immediate 40% Composite Index boards based on their in its history has Citron seen a fraud so collapse of CannTrust’s share price governance and executive compensation blatant: for context, we honestly view Sean further compounded by the revelation practices. While this measure does not Dollinger as a walking securities violation. that both the CEO and chair had been capture the entire cannabis industry – If Namaste was a U.S.-traded company aware of the issue. given the limit on surveyed companies it would be halted and Dollinger would to only the TSX Composite Index – this probably face criminal charges.” While additional regulatory action ranking provides a solid preliminary – which could make CannTrust the indicator of the corporate governance Calling for a trading halt, Citron cited third company in the past year to practices of the sector. Notably, of the 237 two specific instances of alleged fraud. have its licence suspended – is under companies analyzed last year, Canopy and First, Citron cited a YouTube video in consideration, the board has already Aurora Cannabis Inc. (TSX:ACB) finished which Mr. Dollinger stated that Namaste removed both the CEO (notably for last, while Aphria was 12th from the had engaged with NASDAQ for listing. cause, which is almost unheard of in the bottom. All three companies received poor Citron perceived this as premeditated Canadian marketplace) and chair, and aggregate scores on board composition, market manipulation, and the video was initiated a strategic review. While the shareholdings and compensation, subsequently removed. Secondly, Citron outcome of the CannTrust saga is not yet shareholder rights, and disclosure. alleged that Mr. Dollinger engaged in known, what is clear is that the cannabis Specifically, The Globe and Mail noted an related-party sale of Namaste’s U.S. industry is under increased scrutiny to absence of diversity policies, problematic assets, after stating that this transaction unearth additional bad behaviour. option award structures, and the lack of was engineered to an arm’s length party. CEO succession planning.

What’s Next for Marijuana? In short, more M&A and lagging and maybe even fully acquire smaller partnering up as a way to scale up and governance practices will result in more players, small companies looking to protect themselves against the massive transactions and more proxy fights. protect themselves and seize a piece of war chests of larger potential acquirors. the market will have to tread carefully. First, we expect to see a continuation In order to avoid being snapped up by In the U.S., we also expect to see further of the M&A activity that has dominated larger competitors, or even speculators consolidation as laws and regulations industry headlines over the past year. from outside the market, new entrants become less restrictive. As the first and slow growers will have to remain generation of entrepreneurs and growth- Given the potential for large entities nimble in the face of intense competition. driving leaders exit the Canadian market, to scoop up controlling positions, We could see smaller companies emerging U.S. cannabis businesses

www.kingsdaleadvisors.com 2019 Proxy Season Review | 45 may benefit from their experience and glorious and unprecedented opportunities, matter of time before a breach is made. skill set forged over the last five years but reality will inevitably kick in – it is only If cannabis companies want to attract of empire-building in the north. Further, a matter of time before poor actors within sustainable institutional interest rather the Acreage–Canopy deal may provide a the marijuana space are forced to address than retail/alternative funds, they will need template for similar cross-border M&A. shareholder concerns. to get their governance house in order.

In addition, as the Canadian market To date, cannabis companies have largely matures and growth rates slow, regulatory been insulated from governance activism and corporate governance concerns due to their strong TSR performance. are very likely to come to the forefront. However, the cracks in the wall exist Currently, investors are dazzled by the for those willing to look, and it is only a

PAYING FOR THE LONG GAME: A TALE History of Economic OF SHAREHOLDERS’ PURSUIT OF BETTER Value Added (EVA) he concept of EVA is not new. It was introduced in the 1980s by the ALIGNMENT – TSR OR EVA? Tmanagement consulting firm Stern Stewart & Co. Since then, we have seen companies incorporate some form of EVA hile there is almost no debate in While we at Kingsdale have seen an measures into their incentive programs, the shareholder community over increasing number of TSX issuers shift particularly U.S. issuers in the 1990s. However, the merit of linking pay to long- their mix of LTIs towards performance- EVA has never gained enough traction and, term performance, the question based awards in recent years, fiscal year until recently, remained an outlier. many companies are facing, 2018 marked the first year the median This all started to change in February 2018, Whowever, is how exactly to measure mix of PSUs reached 50% among when ISS acquired EVA Dimensions, a firm performance and what metrics best TSX 60 issuers. specializing in EVA research founded by one of the co-founders of Stern Stewart & Co. In reflect a company’s success? March 2019, ISS published a white paper titled Interestingly, an LTI framework consisting “Using EVA in Pay-for-Performance Analysis”, Historically, the trend has been for of 50% or more in PSUs is deemed as a in which they recommended the use of EVA as companies to have a greater proportion positive factor in ISS’s qualitative pay- an alternative measurement of a company’s of performance share units (PSUs) in for-performance analysis. As a result, we economic performance in its quantitative the design of the long-term incentive are seeing companies change – or are model. As of publication, ISS has not yet announced the official timing of EVA adoption (LTI) framework and to move away from committed to changing – the LTI mix as but we expect implementation in the 2020 stock options and restricted share units a way of showing responsiveness in light proxy season. Issuers would be prudent to (RSUs) – although most shareholders of low say-on-pay support in 2018, or of start considering its implications. seem to agree that RSUs are the lesser showing a commitment to improving their evil between the two. ISS’s voting compensative practices in order to gain guidelines also favour RSUs over stock shareholder support. options because options, as a leveraged instrument, can be extremely volatile When you win [with stock options], you win the on a year-over-year basis. While stock lottery. And when you don’t win, you still want it. options offer the greatest upside among The fact is that the variation in the value of an option all equity instruments when things are is just too great. I can imagine an employee going going well, they have little or no retention home at night and considering two wildly different value when share prices are underwater. possibilities with his compensation program. Either RSUs are an effective remedy for both he can buy six summer homes or no summer homes. concerns, except that they offer limited Either he can send his kids to college 50 times, or linkage to management’s performance. no times. The variation is huge; much greater than most employees have an appetite for. And so as soon as they see that options could go both ways, we proposed an economic equivalent. So what we do now is give shares, not options

—Bill Gates (2003)

46 | 2019 Proxy Season Review www.kingsdaleadvisors.com Total Shareholder Return (TSR) Continues to Dominate the Conversation

For the longest time, TSR has been the the case. In fact, the advisor’s preference most prevalent metric that companies is for companies to adopt multiple use in designing PSUs, thanks to its performance metrics in their LTI designs, clear advantages over conventional rather than relying on a single metric – financial metrics, including that it and ideally, these metrics do not overlap is transparent and standardized, with the ones already incorporated in the comparable across the board, easily short-term incentive programs. benchmarked in the industry, and easy to understand and communicate.

Both ISS and Glass Lewis use TSR as the primary measure in their respective pay- for-performance models. However, there is a common misperception that ISS has a preference for TSR and so linking pay to TSR would help a company get a supportive recommendation on its say- on-pay resolution (or its compensation committee members, if say-on-pay is not yet adopted). To our knowledge and based on discussions with ISS, this is not The Case Against TSR

The convenience of TSR comes at a This raises the obvious question, cost. The two major complaints from however, of just how effective TSR is as a executives and shareholders are its point- long-term performance indicator. to-point sensitivity and a lack of line-of- sight for the leadership team. A lack of line-of-sight refers to the fact that TSR, as a market measure driven by Point-to-point sensitivity refers to TSR investors’ expectations, reflects many sensitivity to the starting- and end-point external factors and investor behaviours of the measurement period that puts a that are arguably beyond the control lot of weight on the selection of these of the executives, thereby hindering its two dates. In some cases, the same ability to provide a clear vision for the three-year TSR can tell a very different CEO and the leadership team. More story if the measurement period is shifted importantly, TSR does not provide any by a few weeks, or even days. ISS has guidance or insight to executives about attempted to address this issue by using how to increase TSR, leaving the whole average price for starting- and ending- discussion around pay-for-performance month to smooth TSR. an ambiguous exercise with no clear actionable outcomes. EVA as an Alternative

Following its 2019 Annual Policy Under its current quantitative screen, Survey, ISS is considering adopting ISS applies the Financial Performance EVA – a company’s operating profit Assessment (FPA) as the secondary less a weighted-average cost of capital measure after the primary three screens charge on all capital used in business have been calculated – namely, multiple of operations – as a secondary measure median, relative degree of alignment, and in its quantitative pay-for-performance pay–TSR alignment. The FPA utilizes three model as early as the 2020 proxy or four financial metrics – slightly different season. This year, as part of its phased- depending on the company’s industry – in process, ISS included EVA measures based on generally accepted accounting in its proxy research reports for principles (GAAP). The potential metrics information purposes. include return on invested capital (ROIC),

www.kingsdaleadvisors.com 2019 Proxy Season Review | 47 return on assets (ROA), return on equity ISS is considering adopting EVA – a (ROE), EBITDA growth, and cash flow company’s operating profit less a (from operations) growth. One of the weighted-average cost of capital main criticisms of the FPA, which has charge on all capital used in business been acknowledged by ISS, is that all the operations – as a secondary measure GAAP-based measures are inherently in its quantitative pay-for-performance influenced by accounting standards model as early as the 2020 proxy and can therefore be manipulated by season. This year, as part of its management. This, in ISS’s view, distorts phased-in process, ISS included EVA true economic performance. measures in its proxy research reports for information purposes. EVA, on the other hand, represents an estimate of a company’s true economic profit as measured by the net operating profit after taxes less the cost of capital. It effectively removes any distortions caused by accounting treatment utilizing over a dozen adjustments to earnings and capital base.

When adopted, ISS is planning to incorporate EVA metrics into the secondary FPA test moving forward.

EXAMPLES OF EVA INCORPORATED IN INCENTIVE COMPENSATION PROGRAMS

INCENTIVE DESIGN COMPANY METRIC CALCULATIONS MAXIMUM TARGET THRESHOLD

Economic Profit is calculated by deducting the weighted average cost of capital (WACC) NOPAT Return NOPAT return NOPAT return Total Energy from the net operating Economic exceeds WACC meets or exceeds does not meet or Services Inc. profit after-tax (NOPAT) Profit by 120% – 100% WACC exceed WACC – (TSX:TOT) expressed as a bonus – 50% bonus 0% bonus percentage of the average amount of the invested capital for the year (NOPAT Return)

Cumulative Cumulative 50% payout Avery EVA = after-tax operating Cumulative EVA Economic EVA of $612 – threshold Dennison Corp. profit - (WACC × average of $537 million – Value Added million - 200% performance not (NYSE:AVY) invested capital) 100% payout (EVA) payout disclosed

EVA = net after-tax Economic Ball established a minimum of 9% after-tax as the hurdle Ball Corp. operating profit (Ball’s Value Added rate, which is above the estimated WACC of 6%. (NYSE:BLL) after-tax hurdle rate × (EVA) Payout ranges from 0% to 200% average invested capital)

SVA = operating profit - implied charge for capital (12% of the equipment segment’s average $5 million – Shareholder $7,800 million $3,900 million Deere & Co. identifiable operating threshold payout Value Added SVA – 200 target – 100% target (NYSE:DE) assets on an annual (details not (SVA) payout payout basis. Financial services disclosed) are assessed an annual pre-tax cost of average equity, approximately 15%).

48 | 2019 Proxy Season Review www.kingsdaleadvisors.com ISS’s Influence and Implications Pro Forma Plan Design Concepts s an illustration of how EVA can be incorporated in incentive programs, we As ISS works towards rolling out EVA as have outlined below several alternative PSU plans: part of its formal pay-for-performance test, we expect more issuers to move to A PSU PLAN adopt EVA as either one of their primary PERFORMANCE WEIGHTING THRESHOLD TARGET MAX measures or as some form of modifying METRIC factor that affects the overall payout of 3-Year an incentive program. Annualized EVA 50% 2.0% 5.0% 7.5% 1. EVA as an absolute Growth measure: annualized For those who don’t adopt, we expect 3-Year Absolute EVA growth rate over 50% 25% 50% 100% there to be significant discussion at the a three-year period. TSR Percentile compensation committee level and with shareholders. Some companies may find PSU PLAN 2. EVA as a relative it beneficial to have both EVA and TSR PERFORMANCE measure: EVA WEIGHTING THRESHOLD TARGET MAX in their compensation program to gain growth relative METRIC perspectives from both a leading and to a performance 3-Year Relative a lagging indicator, as the two naturally reference group over EVA Growth 50% 25% 50% 75% complement each other. Either way, the a three-year period. Percentile (E.g. against quartile adoption of EVA will mark a fundamental performance levels of 3-Year Relative 50% 25% 50% 75% shift in how companies and shareholders the peer group.) TSR Percentile think about performance, especially in 3. EVA as a modifier: the context of sustainable value creation The overall payout PSU PLAN over the longer term. level is subject to EVA factor. (E.g. score is PERFORMANCE METRIC THRESHOLD TARGET MAX first calculated based At the very minimum, companies with a on a relative TSR 3-Year Relative TSR Percentile 25% 50% 75% say-on-pay vote will have a vested interest test, and then an EVA in understanding and tracking their EVA modifier based on performance, so they can better prepare three-year cumulative Payout % 50% 100% 200% results is applied.) for their annual meeting and engage more effectively with shareholders.

3-Year Cumulative EVA Target 0% - 100%

Alternatively, EVA can be incorporated in short-term incentive programs in a similar fashion, with the only adjustment being the measurement period. What to Expect in 2020

We are seeing shareholders increasingly companies to consider incorporating executives continue to hold shares putting pressure on boards and some form of EVA measurement in their acquired through exercise of equity management around matters related to incentive program design. However, incentives for a longer term following performance-based incentives, rationale for most companies in 2020, the more exercise in order to mitigate the risk of of performance metrics, how they are practical implication is to start socializing executives “gaming” for short-term gains. linked to the underlying business strategy, the concept of EVA and develop a better This is typically addressed in the form of and how they drive sustainable value understanding of how this will impact post-retirement holdings, which is still creation over the long term. In light of such their quantitative pay-for-performance deemed a leading practice in Canada. pressure, some companies have elected score next year. When comparing the headline-grabbing to either adopt a PSU program or shift pay packages of Elon Musk at Tesla the LTI mix towards more PSUs as a way It is unlikely that we are going to see Inc. (NASDAQ:TSLA) and John Chen at of demonstrating their responsiveness to a large number of issuers adopt EVA BlackBerry Ltd. (TSX:BB), one notable shareholder requests, which has in many in the foreseeable future, as the case difference is the five-year post-exercise cases proven quite effective in gaining the against EVA has always been its high holding period included in Mr. Musk’s proxy advisors’ support. We are expecting degree of complexity and the challenges arrangement. While it is much easier this trend to continue in 2020 and in the it brings to both internal and external to appreciate the value of such holding years to come. communications. ISS’s proposed provisions in the context of these more methodology does not change this. We extreme examples, the underlying Subject to the results of its policy survey, do, however, believe the adoption of EVA principle is the same for most issuers ISS may consider adopting EVA, and the measures by ISS will help advance a whose CEO’s compensation package four EVA-based metrics (EVA Margin, healthy dialogue between management largely consists of equity-based incentive EVA Spread, EVA Momentum vs. Sales, and shareholders on their effectiveness compensation awards. Linking executive and EVA Momentum vs. Capital) in their in creating true economic value. pay to shareholder value is obviously the 2020 pay-for-performance model as the starting point, but holding executives secondary quantitative performance One area we think warrants more accountable over the longer term, in our test. As we noted earlier, this might lead attention and discussion is how to ensure view, is the natural next step.

www.kingsdaleadvisors.com 2019 Proxy Season Review | 49 50 | 2019 Proxy Season Review www.kingsdaleadvisors.com THE GROWING SCIENCE OF BESPOKE MANAGEMENT PROPOSALS: HOW TO THINK BEYOND THE PROXY ADVISORS TO DESIGN RESOLUTIONS WITH YOUR UNIQUE INVESTORS IN MIND hen designing shareholder Lewis). However, in the process, they consideration, the voting policies of their resolutions and considering often forget to ask what their unique shareholders to ensure vote success. governance topics such as shareholder base wants. board composition and tenure, In practical terms, nothing could be it’s surprising how many issuers With an increase in both the number worse than designing a shareholder Wleave a key box unchecked when and size of internal governance teams at proposal on gender diversity, for deciding on what they put forward. institutional investors, more prescriptive example, that would gain the support of Working with their counsel and bankers, policies being developed – such as ISS and Glass Lewis, only to realize that boards work hard to ensure a proposal those on environmental, social, and a significant shareholder like BlackRock aligns with the expectations of the governance (ESG) issues and diversity – Inc. has a different policy calling for regulators and conforms to market and a decreasing willingness to farm out at least two female directors and the standards, and even gets a thumbs-up vote decisions to the proxy advisors, it flexibility to diverge from the proxy from Institutional Shareholder Services, is incumbent on issuers to ensure they advisors, which could result in a Inc. (ISS) and Glass, Lewis & Co. (Glass not only understand, but also take into failed proposal.

How Certain Investors Make Voting Decisions ow are passively held shares voted? The answer depends on the asset managers, not all of whom are willing to disclose the process. Two detailed examples from Russell Investments HGroup LTD and RobecoSAM provide some insight: Why the Traditional Russell Investments Group, Ltd: An external service provider, Glass Lewis, serves as Russell Investments’ proxy administrator. They provide research and proxy voting execution services, subject to ongoing supervision by our internal proxy coordinator and oversight by the Committee. Glass Lewis conducts research regarding each proposal presented for a vote, then evaluates each matter Approach to using our guidelines and takes action consistent with these guidelines. When ballots present unique issues or topics not specifically set out in the guidelines, the proposal(s) are referred to the Committee for a vote.

Proposal Design Is A legal representative oversees all developments and Legal Becoming Obsolete ations of te Committee and its sub-ommittees Representative Oversigt of all te proess and proedures Proy Historically, public companies have of te Committee and its sub-ommittees Committee Cair devoted attention and resources, to not only ensuring regulatory compliance in Composed of senior investment professionals Committee designing proposals but also structuring arged it voting on poliyproedural Voting Members anges and proy proposals them in such a way that they win the endorsement of ISS and Glass Lewis. Evolving proesses and proedures revieing for maret Engagement Guideline Today, institutional shareholders are Lead Analyst effiieny presenting ange to Sub-Committee Sub-Committee taking back some of the decision- te Committee for an approval making, with the proxy advisors now playing the role of data aggregators and Perform proy analysis and form vote reommendations for revievoting by te Committee Proy Analysts “recommenders”, not “vote deciders”. Source: Russell Investments

Furthermore, many institutional investors RobecoSAM: lead ISS and Glass Lewis on certain Input Euity Analyst PMs policies, raising the bar for issuers a year Corporate or two before the same or similar policies Glass Leis Governane Proy Committee Vote Instrution Resear Voting Analyst are reflected in the proxy advisors’ Analysis Revie recommendations. Why? Some large Input Engagement funds have identified a competitive Speialist advantage to developing and evolving Source: RobecoSAM Governance & Active Ownership Team their own custom policies ahead of others – even those of the proxy advisors.

www.kingsdaleadvisors.com 2019 Proxy Season Review | 51 Passive investors have also differentiated view, have not effectively performed years. Closer to home, in Canada, BMO between active ownership and passive this critical function and if corporate Global Asset Management has taken a investing, meaning that exercising votes, performance has been unsatisfactory. more nuanced approach when it comes especially for companies that funds to overboarding, in that it considers non- might be required to own, can serve to Moreover, some investors may have executive chairmanships equivalent to mitigate risk and lead to increased long- policies that are more rigid or have two non-employee directorships. term performance. significantly different thresholds than ISS and Glass Lewis. For example, State These harder-line policies may even For example, British Columbia Street Global Advisors expanded its be product features for underlying Investment Management Corporation board gender diversity voting guidelines client appetites, and voting in line with (BCI) believes that boards of directors to further encourage companies to them and disclosing those votes can are responsible for ensuring a diversify their boards. Starting in the demonstrate the stewardship required company has systems in place to U.S., U.K., and Australian markets in by a fund’s stakeholders, especially on effectively assess and manage risk, 2020, followed by Japan, Canada, and environmental and social issues. By being including environmental and social continental Europe in 2021, it will vote more lenient on some matters and stricter risks. Specifically, there is increasing against the entire nominating committee on others, investors can signal to the regulatory and investor pressure on if a company does not have at least marketplace their beliefs on governance companies to provide climate-related one woman on its board, and has not issues and set their engagement agenda disclosure. BCI will generally vote against engaged in successful dialogue on State to promote changes. the chair or all returning members of the Street Global Advisors’ board gender relevant board committee who, in their diversity program for three consecutive Who Else Carries Influence?

Beyond the proxy advisors, there are were submitted by MÉDAC, up from 58% assets, signed a statement in support other interested onlookers who may not the preceding year. It is worth noting that of the agreement and the Task Force on dictate votes but can still influence the 64% of these proposals were targeting Climate-Related Financial Disclosure. conversation and amount of attention or leading financial institutions, and about distraction around a proposal, such as half (45%) of the proposals were related Since the Paris Agreement, we have those around proxy access and ESG- to compensation matters. seen an increased level of disclosure related matters. In the case of proxy among major issuers in Canada (a topic access proposals in 2017, the Canadian In addition, for the first time, MÉDAC we discuss in greater detail on page 23) Coalition for Good Governance (CCGG) submitted proposals asking issuers along with a sharp rise in shareholder played a critical role in engaging in to incorporate ESG criteria into their proposals asking companies to “up their dialogues with two banks (Toronto- incentive compensation programs. game” on environmental issues (from ten Dominion Bank (TSX:TD) and Royal This year, MÉDAC has targeted 15 in 2018 to 18 in 2019). Bank Of Canada (TSX:RY)) that received companies, including eight financial shareholder proposals that eventually institutions, with these proposals. Adding to this movement, late last led to the adoption of proxy access year, 414 institutional investors from policies by both institutions. The 2015 Paris Climate Agreement, around the world signed and presented a United Nations-backed initiative a “Global Investor Statement” to Mouvement d’éducation et de défense signed by 194 countries committed world leaders calling for more action des actionnaires (MÉDAC) has been the to significantly reducing greenhouse to meet Paris targets. Many of these most active voice on a broad range of emissions, has also influenced the investors have not only led with action issues concerning shareholders, such way shareholders vote, and has set a but are encouraging companies in as those related to compensation, board new standard for what investors are their portfolios to improve on key governance, and the environment. In looking for. Shortly after ratification, 288 environmental issues. 2019, 60% of all shareholder proposals institutional investors, with $26 trillion in

Figure W Proponents of Shareholder Proposals MÉDAC Other Proponents

42% 40% 58% 60%

201 2019

52 | 2019 Proxy Season Review www.kingsdaleadvisors.com Figure X Types of MÉDAC Proposals MÉDAC Proposals by Sector 2018 2018 2019 2019

Compensation 52% Financials 55% 45% 64% Board-Related 13% 26% Industrials 16% 13% Environmental 10% 13% Consumer 10% Proxy Voting 13% Discretionary 9% Disclosure 8% 19% Other 13% Other 8% 13% 0% 10% 20% 30% 40% 50% 60% 0% 10% 20% 30% 40% 50% 60% 70%

Threading the Needle: How Issuers Can Tailor Management Proposals It is clear that having a deeper read on the decision-making should issuers looking to thread the needle ask, and what processes of your shareholders is key, especially in situations makes for an optimal bespoke proposal for your shareholders? where a proposal may be considered controversial and where Here are the top ten points to consider: a portion of your shareholder base is against it. What questions

1. Do shareholders vote based on custom 5. Will the portfolio managers have a say 9. Are there any shareholders that might policies? in the voting decision? be willing to reconsider application of their policies to your unique 2. Are these policies publicly disclosed? 6. Have you checked past voting circumstances and warrant early To the extent you lack certainty on records? engagement? the application of the policies in your 7. To what extent does a shareholder circumstances, have you engaged the 10. If a vote could be close, to what deviate from ISS and Glass Lewis? shareholder? extent will retail shareholders play Does it align with one proxy advisor a factor? If they will, how frequently 3. When the policies are vague, under more than another? have they voted with management in what circumstances and to what extent 8. Have you completed a risk the past? Are you doing all you can to can discretion be applied? assessment of how shareholders ensure the proposal is simple, clear, 4. Is your information or relationship up will react to proxy advisors’ and compelling to win their vote? to date given policy changes and staff recommendations and the vote As the standards for governance continue turnover? When is the last time you impact? Going back to your intended to rise, shareholder intelligence on an talked to the vote decision-makers? proposal, what changes should be individualized basis will define success What did they say? considered to ensure success? or embarrassment. RISE OF THE MICRO-ACTIVIST: HOW CAN BOARDS OF MICRO- AND NANO-CAP COMPANIES PREPARE AND DEFEND WITH LESS? he Canadian market, compared to As a result, the default position at too historical lack How We Define Nano- and our American neighbours, is a lot many micro- and nano-cap companies of resources smaller, which means that a larger is frequently to either ignore a potential to support Micro-Cap Companies percentage of companies targeted activist threat in the hopes it will go shareholder by activists will invariably be on the away or to rely on their regular counsel engagement, Nano-cap: < $50 million Tsmall side. and financial advisors (who may have coupled with little proxy contest experience) for a close set Micro-cap: In recent years, we have seen a trend strategy development. Subsequently, of friends $50 million – $300 million of smaller companies being targeted these companies often implement a and family by activists, with micro- and nano-cap fire-drill strategy, with their leadership who have companies accounting for 66% of the stuck in a distracting cycle of reacting roles with the company (management, public targets in 2018 and 64% in 2019. to circumstances versus proactively directors, and vocal, but not necessarily managing the playing field to their large, shareholders), can lead incumbent Despite this disproportion, the bulk of advantage. boards to dramatically or even fatally “how-to” guides and standard defence overestimate their level of support. playbooks are constructed for companies Perhaps most damaging in these exponentially greater in size. situations, we have observed that a

www.kingsdaleadvisors.com 2019 Proxy Season Review | 53 By the Numbers: Micro- and Nano-Cap Companies Under Fire While the day-to-day affairs of a small half the proxy contests launched over the company are usually more than enough last two years at companies with market to keep management and the board caps below $300 million have been at occupied, they ignore the peril of activism companies with market values under $25 at their own risk. Based on our analysis of million (50% of proxy contests in 2019 micro- and nano-cap companies, roughly and 62% in 2018).

Figure Y

Distribution of Activism at Companies with Market Caps of Less than $300 Million 2019 2018 70 60 50 40 0 20

% Companies Targeted by an Ativist an by Targeted Companies % 10 0 Under $25M $25M–$50M $50M–$100M $100M–$300M Maret Cap

So far in 2019, 11 proxy contests were Guyana Goldfields Inc. (TSX:GUY) and Notably, we’ve observed that over the launched against nano-cap companies, Ascent Industries Corp. (CSE:ASNT) and past two years, activists who target with activists earning a win rate of one management win at Stuart Olson Inc. smaller companies focus mainly on 80% of the completed contests and (TSX:SOX). Two fights are still ongoing. demands related to governance, which is management winning just one fight. not surprising given the close-knit nature Since 2018, management at micro- and of many of these boards. Meanwhile, there were five proxy nano-cap companies have a win rate contests launched against micro-cap of 53%. companies, with two activist wins at

ACTIVIST DEMANDS AT MICRO- AND NANO-CAP COMPANIES MARKET CAP Governance M&A Strategic Review Other 2019 2018 2019 2018 2019 2018 2019 2018 Under $25M 75% 72% 13% 17% 13% – – 11% $25M – $49M 33% 100% 67% – – – – – $50M – $99M 100% 100% – – – – – – $100M – $300M 75% 67% 25% 17% – 17% – –

The Challenge of Defending as Micro- and Nano-Cap Directors

Activist attacks are usually designed of that distraction can be even more unqualified staff, or having to bring on to be distracting to the board and widespread. For example, while a larger external advisors to handle these issues. management as well as to negatively company may have an internal general impact a company’s ability to execute counsel to lead on legal considerations, Smaller companies also tend to lag when on its business plan, while exploiting key an in-house investor relations team to it comes to governance. First, structural vulnerabilities that will move the hearts handle shareholder interactions, and an defences at these companies that are and minds of shareholders. established public relations department common in the marketplace – such as to deal with media, in smaller companies, an advance notice by-law – may not In smaller companies where a few executives and directors may find have been considered, and governing management wears multiple hats and is themselves suddenly responsible for documents may well be out-of-date. responsible for multiple areas, the extent managing these tasks, forced to rely on A recent example of a nano-cap

54 | 2019 Proxy Season Review www.kingsdaleadvisors.com company lagging in governance was and they have a tendency to remain When it comes time for an activist to Synex International Inc. (TSX:SXI) which for long periods. Moreover, smaller pull the trigger, micro- and nano-cap received surprise nominations at its companies tend to have interlocking companies are at an increased risk of annual general meeting relationships when it comes receiving a requisition for a shareholders (AGM) because of its critical to executive and director meeting. As the threshold to requisition error in failing to adopt an roles, shared work spaces, a meeting in Canada is 5% of issued and advanced notice by-law shared legal counsel, and outstanding shares, it is comparatively despite being involved in a sometimes even a shared easier for an activist to accumulate that proxy fight the previous year. CFO. This calls into question amount of stock for less money than When it comes time their objectivity and trying to do so at a company with a Secondly, the boards for an activist to pull independence, especially billion-dollar market cap. In fact, we have of micro- and nano-cap the trigger, micro- and when issues related to seen instances where a poor turnout or companies tend to have nano-cap companies management performance result at an AGM motivated an activist to evolved over time rather than are at an increased (likely that of a friend) are requisition a meeting shortly thereafter. having been built around a risk of receiving identified. When companies Proxy season can quickly give way to a requisition for a thoughtful skills matrix with like this are confronted requisition season where tiny companies shareholders meeting. an intentional recruitment by an activist, by most are concerned. (and refreshment) process. objective standards, This means friends, family, and other shareholders will conclude that at least associates tend to be those tapped to some change is warranted, putting the populate boards in their earliest stages incumbent board at risk. Why Are Micro- and Nano-Cap Companies Considered Easy Targets?

When we talk to activists looking to contests, eight fights have concluded, size, a number might be unable to force target a micro- or nano-cap company, with only two being won by management. change, as most lack the resources and there is generally an air of confidence Not exactly a reassuring statistic. wherewithal to run a formal proxy fight. and a view that the target is a sitting Once a champion for change emerges, duck, ripe for change. Aside from the well • Unexplored opportunities based on these shareholders can quickly known list of reasons all companies can surface value. With fewer analysts coalesce around the champion to apply become activist targets – undervalued, and financial advisors, there are more exponential pressure on management. underperforming, governance failings, opportunities to identify levers to Even where no true activist exists, etc. – there are certain factors that couple increase value. While a small company technology has made it infinitely with these to put micro- and nano-cap may not receive as much media easier for disgruntled shareholders to companies at even greater risk: attention if they have a misstep, that organize and act as one by withholding can also mean that opportunities votes or killing a transaction. While • Shrinking pool of poorly defended for value creation may not be widely this type of organizing is becoming larger targets. As larger market noticed. Operationally, an activist may increasingly common on online cap companies become increasingly look at a company and conclude it is bulletin boards, this year we ran into attuned to the threat of activism and much easier to double the value of a shareholder opposition that was being the number of defence practitioners $100 million company than that of a $1 organized via an invite-only application multiplies to service them, activist billion company. Smaller companies that shielded the organization’s funds looking to deploy capital with generally have a larger world of potential activities from outside eyes. minimal risk are willing to look further acquirors, which could result in a quick downstream to identify targets. win for an activist investor. In addition, • No defending army. Activists know a smaller companies often have great micro- or nano-cap company is unlikely • Emergence of smaller activists with assets but are struggling in some way to to have an affordable A-list defence smaller pockets. The reality is that get them to a larger market. This gives team on standby, which creates the there are probably fewer than a dozen activists an opportunity to get in before possibility for early – perhaps even large, high-profile activist funds with the growth spurt. irreversible – mistakes by the company, sufficient assets under management thereby supporting the perception of an to allow them to take a large enough • Limited number of large investors to easier win. position in a major company to make convince and/or compete with. Smaller a difference. For everyone else, it is companies generally have smaller • Strategy not well-communicated to more practical and less expensive to investors, resulting in better potential the market, combined with a lack of accumulate a meaningful number of flexibility. Large institutional investors, shareholder engagement. This creates shares in a company with a smaller on the other hand, are often restricted by a vacuum that an activist can easily market cap. It also means that fund requirements related to minimum fill to create the perception that the individual and first-time activists – share price and maximum level of company is, and will remain, adrift until former founders and insiders – who ownership, which can limit the influence external action is taken. have limited resources are able to take of proxy advisors and the added dynamic meaningful action. required to win them over. • No counter-thesis. Smaller management teams and boards may be focused on • In 2019, we saw 16 first-time activists, • Pent-up demand for change but no executing the current strategy and do not 13 of which were interested in micro- supporting champion. As micro- and have the bandwidth to explore alternative and nano-cap companies. Of these 13 nano-cap investors tend to be smaller in strategies for value creation, especially if

www.kingsdaleadvisors.com 2019 Proxy Season Review | 55 they have not been pressured to do so or • Increased frequency of questionable related to compensation, related party lack the appropriate expertise, such as practices. By virtue of the smaller transactions, and dual CEO/chair roles, in capital allocation or capital markets, at size of the board and management, especially at founder-led companies. the board level. it is more common to identify issues

How Are Micro- and Nano-Cap Activists Different?

Aside from the fact that most activists a compromise through meaningful create the desired change. Accordingly, do not have the resources, experience, engagement between the two sides, they focus on tearing down a company or teams that the Ackmans and the same dynamic does not exist at and stoking anger to create an Ichans of the world do, there are a few smaller companies. As a result, activists overwhelming desire for change in order characteristics we see repeatedly in are more pointed in their criticism of to get the incumbents voted out rather activists who target micro- and nano- management and likely to use press than creating a detailed white paper and cap companies that can make them releases as a key part of their strategy path forward to get themselves voted in. more aggressive and less predictable. to apply pressure, especially in the early Compounding this is the lack of proxy stages of a proxy fight. This is not to advisor influence that necessitates not First, limited experience and perhaps not say that it will generate media coverage, only a case for change but also some a full complement of advisors means the but the back and forth of press releases sort of an alternative thesis and plan for normal activist playbook can go out the becomes a key channel to advance their the company if a majority is sought. window when the rules of engagement narrative and reach shareholders. are ignored and questionable tactics Micro- and nano-cap companies, are employed. Third, and another reason why activists however, should be aware that activists at this level do not put the same can masquerade as strategic investors Second, and related to the above, these emphasis on engagement before – knowing that smaller companies are activists are more likely to be aggressive launching, is that they tend to be less often starving for capital but often thinly publicly and tend to become aggressive constructive than larger activists. With traded. Micro- and nano-caps are often sooner. Whereas larger institutional smaller boards and management teams, so keen to sign up these investors, they shareholders in larger cap companies the activists tend to be of the view that do so without support agreements in and the proxy advisors like to see that the board and management lack the place, leaving themselves vulnerable to a meaningful effort was made to reach widespread competency needed to activist interventions.

What Micro- and Nano-Cap Companies Can Do Aside from the standard activist defence shareholders who are not known to • Understand the impact of guerilla- checklist that starts with advice to “think management is a good start. style activism. As discussed like an activist” and includes being earlier, a loosely associated group prepared, knowing your vulnerabilities, • Moreover, smaller companies generally of unhappy shareholders can have a and putting an early warning system rely heavily on a few conversations material impact on vote results. Even and team of advisors in place, here with large shareholders to gather if a vote is not defeated, a significant are some additional considerations for feedback rather than conducting active “withhold” campaign can cause smaller companies: solicitation or outreach campaigns to embarrassment for directors, especially get an understanding of concerns not if majority voting applies. While we • Double down on paying attention voiced by large shareholders who are would generally not advise engaging to your shareholder list and close to the company. shareholders who are organizing on your shareholders. Traditionally, the message boards or putting ads in at Kingsdale, we’ve found that • It is crucial for a company to papers, as it would feed the attention management at micro- and nano-cap be quickly responsive to those they require to mount their campaign, companies lack an understanding of shareholders who do reach out. companies should monitor retail their shareholder bases. Most fail to Nothing can escalate a situation more sentiment and have plans in place request non-objecting beneficial owner than having emails from shareholders to increase the turnout of supportive (NOBO) and other lists available to sitting in an inbox for days with no shareholders who may not have them, and instead they rely on financing response from the company. We otherwise voted, to offset any records, with little subsequent active understand that smaller companies negative impact. engagement with the shareholders or may communicate developments brokerages to understand who owns to the market less frequently than • Don’t ignore the importance of a their stock today. larger companies, creating concerns routine AGM. Beyond the vote results about disclosing material non- themselves, a high turnout is a sign • Beyond the list itself, extra attention public information in response to of a healthy company. 95% support should be paid to engaging large shareholders. However, activists will for directors from 5% of shareholders shareholders and responding to contact the investor relations team tells a much different story than 90% general shareholder inquiries. While a as a first step to assess a company’s support from 80% of shareholders. One company may not have the bandwidth responsiveness to shareholders and of the first things an activist will look at for full-scale, broad-based shareholder general competency on key issues. in assessing the viability of launching a engagement, it is important to start Ignoring an activist is not effective in proxy fight is previous years’ turnouts. somewhere. Engaging the top five making them disappear. If turnout is low, that means an

56 | 2019 Proxy Season Review www.kingsdaleadvisors.com activist’s position will have a peers are doing, what companies of that they will try to target incumbent disproportionate impact on the the size they aspire to be are doing, directors. Activists are likely to target a outcome of the vote. For example, a and what other companies also owned few specific directors who companies 6% shareholder at a company where by key shareholders are doing. If should be able to identify on their turnout has averaged 30% will control a company has the hallmarks of a own in advance: Who has the longest 20% of the voting shares. friends-and-family board, that will be tenure? Who is the least independent? low-hanging fruit for an activist to target Who has generated the worst • Running a strategic AGM outreach and the company should be proactive in shareholder returns? Companies should and solicitation program will not only making changes to add independence. be prepared to co-opt the change increase voter turnout but also provide Similarly, absence of a say-on-pay narrative by having an evergreen list management and the board with an vote can be a sign of insularity; of prospective directors available to opportunity to address many of the without a say-on-pay vote, issuers consider – if not proactively refreshing vulnerabilities outlined above, such should not assume that shareholders the board in advance. as better communicating the story, are supportive of management’s engaging shareholders directly, and compensation, especially when While preparing for activism can be getting them to exercise their voting performance has been an issue. daunting and resource-consuming, it is muscles (since many will have never better than the alternative of not being done it before) well before you actually • Be prepared to upgrade your board prepared. Preparation does not need to need their vote. and question the validity of an take place all at once and can be done activist’s nominees. It is harder to in bite-sized chunks. The worst that can • There is no downside to spending attract brand name directors to serve happen is you are more prepared. The time on best-in-class governance. on micro- and nano-cap companies. best that can happen is that you ward off While the proxy advisors may not have Activists may recruit first-time directors, an activist threat before it ever emerges by an impact on your shareholder base, friends, or business associates whose removing yourself as a target. good governance cannot be ignored. independence from the activist can be Companies should consider what their called into question in the same way BOARD OF RIVALS: WHAT BOARDS CAN DO TO HARNESS THE ENERGY, EFFORT, AND PASSION ACTIVISTS BRING TO THE TABLE

nteractions with activist shareholders are productive (but yes, sometimes painful) identifying and recruiting perspectives almost universally divisive experiences. one, from both a knowledge and a that diverge from those of the incumbent Even if the incumbent board prevails, cultural perspective. Consider the general board or that bring a different personality with a majority of its nominees re-elected state of boards in Canada right now: The into the mix. For example, while many or a settlement reached, deep rifts relatively small pool of those qualified like to regard themselves as Type A Iamong shareholders – and even between to be directors at Canadian companies personalities – individuals who are directors and management – are likely to is further depleted by residency outgoing, ambitious, impatient – directors have been exposed. But it doesn’t have requirements, personal liability risk, and should look around the table and observe to be this way. financial means (i.e. due to ownership how many directors are more exhibitive of requirements, being a director isn’t Type B personality traits such as enjoying Most proxy contests become a shouting always cash lucrative), not to mention the working at a more predictable and match between two sides professing fact that boards have a tendency to rely steady pace, focusing less on winning their love for, and commitment to, the on existing relationships to identify new and losing, offering encouragement, company while at the same time being directors rather than conduct a formal and valuing patience and teamwork. wholly uninterested in listening to an search. The consequence of this is that How could a board of Type B directors alternative point of view or exploring even if a board checks all the boxes from benefit from the intentional recruitment courses of action that diverge from what a formal independence perspective, of the proverbial “bull in a china shop”? they have already deemed to be optimal. boards built by relying on the Rolodexes How could a board dominated by Type A As bad blood boils, focus is placed on of its current directors run the risk of directors find value in adding members what went wrong and who should be held tending towards insularity. who are more welcoming of process and accountable, not on what solutions and exploring ideas and concepts? points of commonality can be found. In While a skills matrix may demonstrate a proxy fights, as in politics, it is always broad array of formal skills and expertise Compare this to how activists think easier to say what you are against than are present, homogeneity of personalities about director recruitment. Activists have what you are for. And it’s even harder still and backgrounds may reduce risk- become increasingly artful in designing to illuminate a credible path to get there. taking and lead to group thought and their slates and, with activism becoming confirmation bias. a more accepted practice, attracting We have observed that the process of more of their preferred candidates. While recruiting and adding activist nominees While much has been said with regards they will ensure they check all the boxes – who are independent of the activist to diversity of obvious traits, usually when it comes to skills, experience, and fund itself – to a company board, then physical like gender or race, little even gender and ethnic diversity, they will having them in the boardroom, can be a has been explored about purposely also look for individuals who can shake

www.kingsdaleadvisors.com 2019 Proxy Season Review | 57 up a boardroom. To be clear, activists When they step into the boardroom, should ask what boards who are targeted generally do not seek out nominees they can demand reams of information, by activists can do to harness the energy, who will be disruptive for the sake of reopen previously closed files, and force effort, and passion these activists bring disruption, but rather directors who other directors to up their game. While to the table? hold an alternative set of beliefs and are all directors have a fiduciary duty to confident enough to challenge the status act in the interest of all shareholders, Much time is spent talking about the quo, ask the tough questions, and put not just the ones who nominated them, power of collaboration and the necessity forward new ideas. activist nominees have also staked their of collegial relationships at the board reputations on creating change and being level, but can conflict, or at least some We have seen many instances in which an more action-oriented. constructive tension between directors, activist nominee knows a company better benefit shareholders and breed success? than the incumbent directors, having Rather than asking what boards can do to How can thinking differently about activist spent months, if not years, dissecting prevent an activist nominee from joining nominees and their ideas be more fully the company, interviewing former their ranks, especially in situations where leveraged by companies? employees, and visiting its operations. it is clear shareholders want change, they

How Do Directors Really Feel About a Diversity of Views?

This is an introspective question that and commitment to the company and increases dramatically when they directors should reflect on privately to can become wholly uninterested in conclude that adding the nominees via parse out what they believe they should entertaining points of view that do not a settlement will likely result in fewer say publicly and how they really feel align with or confirm their chosen course activist representatives on the board internally – especially if they have been of action, let alone welcoming a new than would otherwise be awarded via a the subject of personal attacks by an board member who holds those points shareholder vote. activist: “I know diversity of views is of view. Alternative points of view in the supposed to be a good thing, but do I context of an activist interaction are Companies will also argue that having an really want this boat rocked and have to often described as, among other things, activist nominee in the boardroom will deal with them myself?” “not understanding of the real problem”, be “disruptive”, but this argument, too, “demonstrating their inexperience”, gains little traction with shareholders. The importance of a “diversity of views” and “contrarian” in an effort to quickly When companies talk about the threat has become an obligatory soundbite dismiss them without having to deal of upsetting the board dynamic, the in the governance world that is usually with their substance. Yet, time and time importance of working together in followed by a mantra about the value of again, these points of view gain traction a collegial fashion and consensus, different backgrounds, experiences, and with substantial portions of an issuer’s shareholders can perceive this as an skill sets in the boardroom, yet the reality shareholder base. argument coming from a board that has can be very different. Directors may grown too comfortable, interpreting such be open to hearing a diversity of views Disagree with this perspective? Consider statements as an inclination to steer when delivered by fellow directors of a how the concept of adding an activist away from asking difficult questions, different gender, ethnicity, experience, or nominee to the board is frequently arguing controversial courses of action, background, but when an activist point described and discussed. Adding or challenging the status quo. From of view is introduced into the discussion, an activist’s nominees to the board, a shareholder perspective, how can that openness can quickly fall to the especially if awarded in a vote, is often they be assured a company is striving wayside. Too often boards can fall into a described as the “downside scenario”, for its best if they do not perceive a mindset of “When I want your opinion, I particularly if that nominee is to be constructive tension at the board level? will give it to you”. included on crucial committees. The Put another way, many shareholders “lesser of two evils” is conceding a seat subscribe to the view that diamonds are When under fire and the subject of or more via settlement. The board’s only made when pressure is present. scrutiny, directors who otherwise willingness to entertain adding one or talk about their fiduciary duties more activist nominees generally arises

Activists on Board

Despite incumbent directors’ resistance forward a credible thesis in the form of hold the view that any change is better to adding activist nominees to boards a white paper, as well as having become than the status quo. What is the downside and the many arguments that warn about increasingly adept at identifying and of having one or two new shareholder the disruption they will cause, activist forwarding qualified director nominees voices on the board? nominees are still appointed and elected and even management candidates. to boards on a regular basis. Why? In an increasingly common tactic, activists Because they are sometimes viewed While incumbent directors may complain will seek to use a company’s unwillingness by their shareholder peers as at least they have “never heard of” the activist to consider alternative points of view at partially correct about the company’s nominees as a way to infer an obvious the board level as a demonstration of underperformance and undervaluation, lack of qualifications sincethey have the board’s entrenchment. Activists will often due to the fact that they have put never heard of them, shareholders may reach out privately and “attempt” to reach

58 | 2019 Proxy Season Review www.kingsdaleadvisors.com a settlement with the company, knowing is simply a mechanism to achieve this gambit will increase their credibility the endgame the activist desires. Chances Are an Activist with reasonable shareholders when made Professional activists will tell you that public and the rejection of the settlement they only need two directors on a board Interaction Will Result in offer, in fact, reinforces the notion the to bring about the change they want: Activist Nominees on Your board is entrenched. one to make a motion and another to second it. They are confident that their Board, but How Many? It is important to point out there is a nominees will be so effective and make distinction to be made between activist life so miserable for underperforming oth issuers and activists must carefully nominees who are added via settlement directors that they will be able to slowly weigh the benefits of taking a fight to a and those added via a proxy contest, force the turnover of the board – in Bvote against the risks. with the former usually having undergone either its directors or its point of view. As the charts below show, while the total a review and meeting process with the What long-tenured director a few years number of board seats gained by vote is larger board to assess their qualifications and from retirement would want to continue than the seats gained in a settlement, we have address any concerns regarding issues serving on a board where every meeting found that over the past five years, activists such as conflicts of interest. If a board had suddenly become a painful cross- in Canada who settle are more successful, on a percentage basis, in obtaining board seats deems the nominee to be lacking in examination? It is also important to than activists who let shareholders decide certain necessary skills, the opportunity note that while not explicitly targeted in their fate. This is not surprising, given the fact exists to negotiate with the activist to find activist campaigns, CEOs are frequently that self-preservation plays a role, meaning a more qualified director. a target, with the activists already incumbent boards are more likely to entertain having a shortlist of candidates they a settlement (and a standstill agreement that comes with it) if they believe the outcome of a Rarely, if ever, is a board seat the final want to put forward. vote will be worse for them. Otherwise, if they objective of an activist. A board seat have confidence the activist will lose in a vote, why bother settling?

Figure Z Activist-Induced Change Board Seats Gained: Via Votes at Meeting Relative to Demand In several recent examples, we’ve seen gave the activists two out of seven board Asked activist nominees effect immediate seats. Since April, Guyana Goldfields Received change upon being elected to their has replaced its CEO and CFO, and in respective boards. August, a news story surfaced about the 120 109 company exploring options including a 100 For example, since a December 2018 potential sale of the business. Finally, 93 special meeting of shareholders at at Aimia Inc. (TSX:AIM) we’ve seen 0 Detour Gold Corp. (TSX:DGC) in which wholesale management and structural 60 66 activist Paulson & Co., Inc. won majority changes since March 2018, after the 52 control of the board, the company has company added two activist nominees. Board Seats 40 replaced its CEO, CFO, and parted ways 33 29 28 20 20 with its COO. We’ve also seen significant While the market will ultimately decide 15 1 changes at Guyana Goldfields since that if changes like these were effective at 0 2015 2016 2017 2018 2019 company’s proxy battle ended with a building value, it’s evident that activist settlement agreement in April 2019 that nominees can trigger change. Figure AA Board Seats Gained: Via Settlement Relative to Demand The Activism Opportunity for Boards Asked Received It is said that every cloud as a silver lining. feature like “open-pit mining experience” 120 If we adopt that mindset when it comes to or who is more “racially diverse”. While activist nominees, the question becomes valuable, would the board benefit from 100 what opportunities exist if we think of an considering other less tangible factors 0 activist not as a self-interested, self- such as an individual’s personality, serving investor but as a shareholder who motivations to serve, and willingness 60 has spent a lot of time thinking about the to challenge the status quo? While it is Board Seats 40 44 company, engaging the market, and is important to have functional expertise 32 24 20 20 passionate about the company’s potential and experience on the board, could 19 16 13 11 future? Looking around the boardroom there be value in adding someone 0 4 7 table, how many incumbent directors who is truly passionate about creating 2015 2016 2017 2018 2019 do you see bringing that same passion value, perhaps with a private equity and obsession with value creation to the background? What about someone who company? Here are some key questions has shown the ability to thrive in a crisis for boards to consider: or develop disruptive strategies?

• Would it be useful to broaden your • Can you use an activist’s recruitment thinking when it comes to diversity process to bolster your own recruiting? Almost universally, director recruitment and refreshment? recruitment concentrates on finding Having the best and most capable someone who has a specific apparent people trumps how you came to find

www.kingsdaleadvisors.com 2019 Proxy Season Review | 59 them. Activists tend to present to the underperforming directors to up activist nominees are able to identify and companies a different set of potential their game. We have seen success, understand the problem. nominees than the company would especially in situations where efforts are have identified through its own board made to welcome and integrate activist • How do you aim a tornado? The recruitment (to the extent that there is, nominees to the board rather than try to risk in building a board of rivals is in fact, a refreshment process in place). isolate them. that you create a group of people While all may not be qualified, the fact is who become focused on talking and that the stigma around being an activist • Incumbents should not assume that arguing without reaching a decision – nominee has worn off in recent years and an activist nominee will share all the let alone a consensus. This is where very credible individuals are choosing same biases as the activist, nor that the role of a strong chair comes in, at to serve as activist nominees. When you they will only be beholden to that one both the full board and the committee couple this with the fact that activists shareholder. Withholding information levels. Directors tend to become more often target long-tenured directors, and reserving committee roles only for appreciative of broader and even boards that have recognized the need tenured directors only tends to reinforce opposing perspectives as they become for change but for certain delicate the reasons why the activist nominees more comfortable leading within that reasons have been hesitant to remove made their way onto the board in the environment. We have noted that a stubborn board member could now first place. We have heard from some directors on a board that is considering have an excuse for action. We have been nominees that their eyes are opened adding an activist nominee, who have surprised by the number of times we once in the boardroom and things aren’t already interacted with another activist have heard members of a nominating as they appeared. An independent nominee on another board, tend to committee remark that a certain director nominee can be an independent thinker. be less threatened by the prospect. should have moved on or should be We would also note that uniting the moving in a few years, but have no • Where efforts are made to educate, board around a common goal and set plan to make a switch. If an activist integrate, and challenge the strength of standards is also helpful and made brings forward a credible candidate, of the activist nominee’s bond with the possible through a substantive director shareholders will not look kindly on those activist, boards are often surprised to evaluation process. This allows all they see as robbing them of valuable find just how independent nominees directors to move past personal biases expertise and a fresh bias for action. can be. Where an activist nominee’s and cliques to a more robust evaluation placement is the result of a settlement, of performance. • How can you harness activist- this takes on increased importance as nominated new blood on the board a clock will be ticking and the company We are big believers in the idea that it is far to move in a positive direction? While will be under pressure to show results. better to aggressively test ideas privately ignoring the past, especially when it For example, it is not unusual in a than to have them fail publicly. Given the includes personal slights, can be easier proxy fight for an activist to advocate a number of unhappy shareholders we said than done, we have generally found particular course of action that the board encounter, we think more boards would be that activist nominees, once added to a has already considered and ruled out, well served by welcoming directors who board, have a constructive influence on but for confidentiality reasons is unable are willing to ask tough questions and are the board by, at the very least, forcing to disclose that. Once on the board, unafraid to argue with their colleagues. WHAT BOARDS OF DIRECTORS CAN LEARN FROM THE TORONTO RAPTORS The world of business is often like sports, that the NBA champion Toronto Raptors’ in the Raptors’ championship season, it especially when it comes to boards of home arena is located at the foot of Bay is useful to see what directors can learn directors who have to square off against a Street, the heart of the nation’s financial about building not only a winning team, shareholder activist. It’s convenient, then, district. As Canada continues to bask but also a resilient one. Always Evaluate

Like the Raptors at the start of the and adversity – such as a short-seller to challenge the underlying assumptions season, companies have a strategy or activist shareholder – strikes, what of their strategy, and to make changes they plan on executing. But, unlike changes are they prepared to make in when needed to maintain shareholders’ the Raptors, many companies are response? Or, more importantly, what and the market’s confidence. unprepared to critically evaluate that has been done to prepare and build strategy as it rolls out, to make needed resiliency into the enterprise in advance? Boards need to ensure a balance of adjustments, and to respond to adversity. expertise so that they are able to not Raptors coach Nick Nurse dealt with only question plans effectively but also This season, the Raptors had injury each of these delicate situations adequately evaluate management in issues: Kawhi Leonard missed 22 games effectively and won the respect of players order to ensure they get their number as part of his load-management protocol, and fans in the process, demonstrating one job right: hiring the right CEO (and and Serge Ibaka was sent to the reserve that accountability matters. Directors firing the old one if needed). unit. For boards, when targets are need to be able to put their companies missed, results fall short of guidance, into a constant state of internal review,

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Raptors president, Masai Ujiri’s decision be replaced with mine builders and who can absorb the massive scaling up to fire the coach of the year and trade fan operators at the appropriate time. and growth in the industry. Such was the favourite, DeMar DeRozan, for the often Crucial to this refreshment is succession case with Aphria Inc (TSX: APHA), where injured, rental player, Mr. Leonard, left planning, especially for the CEO role, both co-founders recently moved on many people scratching their heads. But which was a key issue in Paulson & Co.’s from the company. Mr. Ujiri was enacting a lesson that many recent proxy fight against Detour Gold. boards fail to appreciate: Regardless of Unlike the Raptors, who identified Nick Just as fans see a general manager’s your affinity for an individual and their Nurse as Dwane Casey’s successor after willingness to make bold moves as an past contributions, the team that got you five years as an assistant coach, Detour indication of the team’s commitment to where you are might not be the team Gold was vulnerable because a lack of to win, shareholders view succession to get you where you want to go. succession planning had left it with a planning and an ongoing commitment to revolving door at the CEO position. In board refreshment as an indication the Take the gold industry for example: the cannabis industry, we have seen company is committed to Directors with exploration and and will continue to see, the need for long-term success. development experience may need to founder-CEOs to be replaced with CEOs Develop Your Bench Players The Raptors built a team with a strong Similarly, in the corporate world, there obvious weaknesses and any skill gaps bench, understanding that individual are clear benefits to understanding that may develop following a change in players – even stars – aren’t always where you can effectively slot in new market or operational conditions. Like available or appropriate to get the job talent during periods of adversity or fans, you can bet your shareholders will done. By ensuring adequate depth and change. Furthermore, it is critical to be making similar comparisons. competence beyond front-line players, they be tapped into industry professionals were able to outlast and outcompete teams beyond the company’s immediate cohort that relied heavily, or entirely, on superstars. and to continually attempt to shore up Deliver for Your Fans For boards, “fans” are your shareholders. opportunity is seen to exist, as illustrated expected. Boards need to be willing Prior to this past season, Mr. Ujiri in M&G Investments’ recent proxy fight to explore strategic opportunities, remarked that being good wasn’t good against Methanex Corp. (TSX:MX) and evaluate their company through the enough; the Raptors needed to be great, JANA Partners LLC’s campaign against eyes of an activist, and be prepared to and directors would be wise to adopt a Agrium Inc. when it was the second-best explain why a particular course of action similar mindset. performer among its peers. does not make sense. As Mr. Ujiri has remarked, sometimes the best moves Like fans of the Raptors, which had In Canada, where our unique regulatory are the ones you don’t make. When an become a reliable 50-win team without regime paves an easy road for opportunity to create value is seen but a championship, shareholders of shareholder activists, a company’s boards are unable or unwilling to act on companies that deliver consistent results performance does not allow it to it, shareholders will be quick to replace can be prone to demanding even more if escape an activist attack if more is them with directors who are. Do You Reward Your Stars for Past Results or Meeting Future Expectations? By all measures, Kawhi Leonard was an to future performance metrics, such as for talent but still appropriately impactful superstar and all indications total shareholder return. While boards will incentivizing them to succeed. Die-hard were that the Raptors were willing to argue that large make-whole payments fans and shareholders are generally in break the bank to keep him in the fold. are needed to attract unique talent it for the long haul, with both expecting or that voluntarily retiring executives year-over-year performance for their But how much they are willing to pay are deserving of a special payout or loyalty and the sound investments in their superstars highlights a core severance, shareholders are likely to see talent that requires. question for them to consider, and one things differently. Many simply do not buy that is familiar to boards: How much is a into the “CEO-superstar” narrative that To apply these lessons to your company, winner worth? boards have used to justify eye-popping you don’t need to be an expert in pay packages. basketball or even a fan. Just a fan of Too many boards are judged by good governance. shareholders to have overpaid for CEOs As Mr. Ujiri demonstrated in re-signing who previously demonstrated success, Serge Ibaka and Kyle Lowry two years without adequately tying compensation ago, success hinges on not overpaying

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