Implications of InterOil: The Importance of Thorough and Independent Fairness Opinions

The Supreme Court of Yukon's decision in the InterOil case has generated considerable conjecture regarding the nature and form of fairness opinions in Canada.

Findings in InterOil
The Yukon Court of Appeal and subsequently, the Supreme Court of Yukon, identified several “red flags” that led to the initial approval of the transaction being overturned on appeal. Ultimately the Court approved the transaction after significant additional work, expense and time. Pertaining to the fairness opinion itself, these red flags included:

• Potential conflict of interest given the opinion provider’s contingent fee arrangement
• Failure to disclose the quantum of the advisor’s fee
• Absence of a second opinion - provided on a fixed fee basis - given this potential conflict
• Lack of disclosure regarding valuation methodologies used (notwithstanding that the conclusory, short form fairness opinion provided was in line with Canadian standard practice).

The Appeal Court found that approval by the shareholders (over 80% in this case) should be afforded less weight because they lacked the requisite material to make an informed decision. Further, Justice Veale of the Supreme Court said that a “minimum standard for interim orders of any plan of arrangement” include a long-form fairness opinion prepared on an independent, fixed-fee basis. “It is not acceptable to proceed on the basis of a Fairness Opinion which is in any way tied to the success of the arrangement.”

The Future
Market practice may not change immediately due to InterOil, especially in non-contentious, smaller transactions. Given the incremental cost of increased disclosure and second opinions, boards may forego such measures if they believe that they have sufficient knowledge to evaluate information and the capability to manage conflicts of interest in executing their fiduciary duties.

However, the InterOil decision is part of a trend toward greater transparency and signals that more rigorous and independent procedures are increasingly expected by courts and shareholders. For example, after HudBay, the Ontario Securities Commission suggested that an opinion provided under a success fee arrangement did not assist directors in discharging their duties. And since InterOil, the OSC indicated that it will be reviewing the disclosure required in proxy circulars in these matters.

It is prudent for boards to mitigate the red flags as a matter of course and especially where transactions may face resistance. In addition to reducing reputational risk to boards, officers and their advisors, it may well be cost effective and expedient, too. Delays occasioned by increased regulatory scrutiny or shareholder litigation could be prohibitive given the adage that “time kills deals”.

Our Approach
Duff & Phelps has particular expertise in situations where advisor independence is paramount and scrutiny is elevated.

• Core Practice: Duff & Phelps ranked #1 for fairness opinions provided, globally, over the past five years.
• Independence: The vast majority of our opinions involve transactions in which Duff & Phelps is not the investment banker and we are highly experienced in providing second opinions.
• Analytical Rigor: We are comfortable providing opinions in transactions involving minority interests, debt securities and those transactions lacking a market-clearing mechanism.
• Industry Expertise: With decades of experience and a global footprint, Duff & Phelps has dedicated, industry-focused teams across our valuation and corporation finance practices. This in-depth knowledge informs and enhances our analysis.

All opinion engagements are executed through our global quality assurance procedures, which include a multi-stage review process and approval by the Opinions Committee consisting of senior executives of the firm.

While Canadian fairness opinion standard practice will continue to evolve, Duff & Phelps' Fairness Opinion Practice has defined the higher standards seen in the U.S. and globally for over 30 years.