Baffinland Iron Mines: deal price is not a “steel” of a deal

The Ontario Superior Court’s recent decision in 1843208 Ontario Inc. v. Baffinland Iron Mines Corporation confirms that, in the context of fixing fair value in a dissent proceeding, Canadian courts will generally prefer market evidence (where the issuer’s securities are publicly traded) over theoretical valuations. Additionally, courts will give substantial weight to a deal price that is generated through a robust bid process. The decision should help provide greater certainty (and align more closely with economic principles) in respect of dissent rights and fair value proceedings.

What you need to know

• The decision by the Court is highly discretionary. The “one true rule” in concluding on fair value in dissent proceedings is that a court must consider all the evidence that might be helpful in light of the particular facts of the case, and exercise its judgment based on that evidence. It is a discretionary decision that is not amenable to a fixed or set formula.
• Courts favour market evidence. Courts in recent years have tended to favour real, market evidence (i.e., share trading price and deal price) over theoretical valuations based on discounted cash flow analyses where market evidence is available and reliable. This case confirms this trend.
• Deal price often represents the fair value ceiling. Issuers can be relatively confident that in the case of a publicly traded company, absent market distortion, deal price is likely to represent the ceiling for an assessment of fair value in a dissent proceeding.

Background

Baffinland is an iron ore mining company with interests in deposits of iron ore on Baffin Island. As of the valuation date for the dissent proceedings¹, Baffinland’s iron ore project remained at the exploration stage. The cost to develop Baffinland’s iron ore deposits on Baffin Island was substantial (by some estimates, in excess of $5.4 billion), and Baffinland had insufficient capital to develop the project. In 2008, Baffinland retained investment bankers to assist it in finding a strategic partner. Over 20 potential partners were contacted. Following a two-year process, Baffinland engaged in discussions with ArcelorMittal S.A. regarding a possible joint venture. As Baffinland negotiated with ArcelorMittal in 2010, Nunavut Iron Ore Acquisition Inc. (Nunavut) initiated a hostile takeover bid. Initially, the board of directors recommended that shareholders reject the Nunavut offer, and a bidding war commenced between Nunavut and ArcelorMittal.

Over the course of two months, Nunavut and ArcelorMittal increased their bids for Baffinland. This process, interrupted by a hearing at the Ontario Securities Commission to cease-trade Baffinland’s shareholder rights plan, culminated in a joint bid by Nunavut and ArcelorMittal for Baffinland’s shares at a price of $1.50 per share. The board of Baffinland recommended the bid, and 93% of the outstanding shares were tendered. Baffinland implemented a second stage going private transaction by way of a plan of arrangement, with the result that all outstanding Baffinland shares were purchased by the ArcelorMittal and Nunavut consortium. The transaction closed on March 25, 2011. The dissent application was commenced shortly thereafter.

Dissent proceedings

The theory of the dissenting shareholders was that the deal price was unfair because the bidding process between Nunavut and ArcelorMittal had been artificially interrupted by the bidders’ decision to submit a joint bid, distorting the market. As a result, the dissenting shareholders claimed deal price could not provide reliable evidence of fair value. Instead, the dissenting shareholders tendered expert evidence, based on a discounted cash flow analysis, that fair value for Baffinland’s shares was $8.91 per share, a price that was more than six times greater than the deal price.

The Court rejected the dissenting shareholders’ theory that there had been a market distortion as a result of ArcelorMittal and Nunavut determining that they would submit a joint bid. Justice Osborne held that there was no general proposition that, at law, a joint bid automatically distorted normal market conditions, and in this case the evidence did not support such a conclusion. Where two independent, arm’s-length parties determined in their own self-interest to submit a joint bid, this was evidence of the culmination of a full market process. There was no evidence to substantiate the dissenting shareholders’ allegation that, had ArcelorMittal and Nunavut continued to submit their own bids, they would have offered a higher share price. Nor was there any evidence of any other interested party submitting any bid whatsoever, let alone a higher price.

In reaching his decision, Justice Osborne had regard for the fact that the market for Baffinland’s shares was relatively small, and potential bidders who would appreciate the risks of mining in the harsh conditions of Baffin Island were sophisticated. If there were any potential bidders who were interested in the opportunity, they had access to relevant material information to enable them to make a topping bid. The fact that there were no other offers from any other party was compelling evidence that fair value ought to be no higher than deal price.

For a public company, the deal price represents what should be the ceiling in terms of fair value. The pre-transaction announcement trading price of the company’s shares, based on a robust record of disclosure mandated by securities law, reflects the considered view of market participants as to the value of the company’s shares. What a purchaser may be willing to pay by way of a control premium is over and above that market assessment of fair value, with the premium in a deal price not necessarily representing value discovered in a sale process but the sharing by the buyer of some post-deal synergies or savings it expects to realize.