The recent Superior Court of Justice, Divisional Court decision in David Charles Phillips and John Russell Wilson v the Ontario Securities Commission 2016 ONSC 7901 (“Appeal Decision”) provides important insights into the application of the test for fraud under section 126.1 of the Ontario Securities Act (“OSA”) and the basis for finding a breach of section 44(2) of the OSA regarding making false or misleading statements by registrants. The Appeal Decision also concerns the disgorgement penalty under section 127(1) of the OSA.

This was an appeal from decision made on January 14, 2015 by an Ontario Securities Commission (“OSC”) panel made up of Commissioners Edward P. Kerwin and C. Wesley M. Scott (“OSC Panel”). The OSC found that David Charles Phillips and John Russel Wilson (“Appellants”) had defrauded investors by selling and overseeing sales of almost $19 million in securities while withholding certain information (“Fraud Finding”) as well as making certain misrepresentations contrary to the Securities Act (“Misrepresentation”) and had failed to deal with their clients honestly, fairly and in good faith. On October 28, 2015, the OSC ordered, among other things, that Appellants disgorge all of the proceeds realized from their misconduct (“Disgorgement Order”).

The appeal to the Divisional Court was from the Fraud Finding, the Misrepresentation Finding and the Disgorgement Order. Wilson and Phillips did not contest that they failed to deal with their clients honestly, fairly and in good faith.

The Appellants were involved with a group of companies First Leaside Group (“FLG”) that was in the business of selling real estate investment products to the public through a related exempt market dealer – First Leaside Securities Inc. (“FLS”). Phillips was the founder of the FLG and the CEO, president and director of its parent company – First Leaside Wealth Management Inc. (“FLWM”) and its sole shareholder.   Phillips was also a dealing representative and ultimate designated person with FLS.  Wilson was a director of FLWM and a dealing representative with FLS.  By August of 2011 the FLG had 161 companies and both Canadian and US limited partnerships formed to acquire and own real estate.

The background of the OSC Involvement are as follows:

  • In late 2010 or early 2011, the FLG provided OSC Staff with a valuation of one of their properties – Wimberly Apartments LP – a US limited partnership that held the FLG’s Texas real estate holdings. At the time the US limited partnership had about 1000 investors.
  • In March 2011, the OSC asked that a viability study of FLG be conducted and Grant Thornton LLP was retained to conduct the study.
  • On August 19, 2011 Grant Thornton completed the report (“Report”) which found among other things that “the future viability of FLG was contingent upon its ability to raise new capital” and that a “Base Model” be adopted where funds would siloed in each LP; that the practice of moving cash between the LPs would be stopped and that they would stop using new investor moneys to fund existing projects. The Report also found that if the Group was restricted from raising new capital that the Group would be “unable to continue its operations in the ordinary course.”
  • On September 1, 2011 FLG’s lawyers and Grant Thornton met with the OSC to discuss the Report. The OSC staff said that they had not yet accepted the Base Model but they had no immediate plans to take further steps.
  • August 22 – October 28th, 2011 FLG continued to sell FLG securities for a total of $18,765,168.
  • October 28, 2011 OSC Staff advised the FLG that it intended to commence an action against FLG and will bring an application for an immediate cease trade order.
  • November 7, 2011 FLG wrote to investors and advised them for the first time about the Report and said that they had voluntarily cease trading.
  • February 2012 a substantial part of the FLG sought creditor protection under the Companies’ Creditors Arrangement Act.
  • On June 4, 2012 the OSC filed a Statement of Allegations and on April 23, 2013 an amended Statement of Allegations.
  • June 5 – September 25, 2013 an OSC hearing on the merits took place.
  • January 14, 2014 the OSC released its decision.
  • October 28, 2015 the OSC made a series of order against Wilson and Phillips.
  • September 22, 2016 the Divisional Court released its decision.

Fraud Finding

Section 126.1 (1)(b) of the OSA provides that a person or company shall not directly or indirectly engage or participate in any act, practice or course of conduct relating to securities … that the person knows or reasonably ought to know … perpetrated a fraud on any person or company.” The OSC found that Appellants had breached section 126.1 (1)(b) of the OSA.

The OSC found that the Report and its contents should have been disclosed to investors who invested in the FLG companies during the sales period. The following contents of the Report were identified:

  • FLG’s LP’s could not continue to cover the FLG’s stated distributions;
  • an asset valuation had disclosed a significant equity deficit (assets were worth $67 million while the FLG had raised approximately $200 million resulting in a “significant shortfall”);
  • cash flow deficiency of approx. $15.9 million extended over a three-year period of 2011 – 2013.

The OSC applied the test for fraud set out by the SCC in R v Theroux 1993 CanL.II 134 (SCC) – the actus reus of fraud is the proof of prohibited act, “be it an act of deceit, a falsehood or some other fraudulent means” and deprivation caused by prohibited act, which “may consist of actual loss or the placing of the victim’s pecuniary interests at risk”.  “Other fraudulent means” includes non-disclosure of important facts. The test for “other fraudulent means” was determined by the SCC to be such means which is “determined objectively by reference to what a reasonable person would consider to be a dishonest act”.

The OSC found that Appellants knew the Report contained important facts that they did not disclosure to investors during the sales period and that the Appellants knew that the likely consequences to the investors of the non-disclosure would be deprivation or the risk of deprivation and that they therefore committed fraud.  Failure to disclose constituted a “dishonest act” which caused deprivation by putting the financial or pecuniary interests of FLG’s investors at risks.

Wilson and Phillips appealed the finding of fraud on the basis that the OSC’s reason did not disclose whether it undertook the objective analysis prescribed by the SCC.  According to the Appellants, the OSC Panel simply went from a finding of non- disclosure to of important facts to a finding of fraud by “other fraudulent means”.

In her decision, Justice Sachs pointed to “significant information” in the Report “that could adversely affect the pecuniary interests of anyone who invested in FLG, namely that FLG could not meet its distributions, that it had a significant equity deficit and that it had a cash flow deficit.”  Justice Sachs stated that “the Commission’s implicit conclusion that the non-disclosure in this case would be regarded by a reasonable person as dishonest, and therefore its conclusion that the allegations were made out, was reasonable.”

Wilson and Phillips had also argued that a finding of fraud must be reviewed on a standard of correctness, as fraud is a question of general law of central importance to the legal system as a whole and therefore it was a question that was outside of the Commission’s area of expertise (“General Law Exception”).  Justice Sachs, referring to McLean v. British Columbia (Securities Commission) 2013 SCC 67, stated that in order to rebut the presumption on the basis of the General Law Exception, the question must be both of central importance to the legal system and outside of the tribunals’ area of expertise.  Justice Sachs found that the OSC applied developed jurisprudence to the facts before it and that securities fraud was squarely within the OSC’s expertise and that therefore the presumption had not been rebutted and the applicable standard of review was correctness.

Misrepresentation Finding

Phillips and Wilson challenged the “Misrepresentation Finding” on the basis that the OSC Panel breached the rules of natural justice by grounding the finding of misrepresentation on conduct not alleged in the amended Statement of Allegations. Justice Sachs rejected this argument on the basis that a statement of allegations under a prosecution under the OSA is not the same as a criminal information or indictment because of the OSC’s public interest jurisdiction and that the Statement of Allegations did allege misrepresentations even though it did not refer to the specific evidence of the breach. Justice Sachs also pointed to the fact that the evidence used to establish a violation was in the possession of the FLG and the Appellants did not raise this issue earlier in the proceedings.

Another argument put forward by the Appellants was that the OSC Panel had committed an error of law in failing to find that establishing reliance by the investor was essential to a finding of misrepresentation under the OSA.  Justice Sachs stated that: “All that is necessary is to establish that a reasonable investor would consider the statements relevant to his or her decision about whether to make the investment.”

Disgorgement Order

The OSC Panel required that Phillips disgorge $16,587.254 representing the full amounts raised by him, and others under his supervision and direction and Wilson disgorge $7,817,739 presenting the amounts that he had personally raised from investors.  Wilson and Phillips argued that the OSC Panel erred in its application of the test for disgorgement when it ordered that Appellants to disgorge amounts that they had not actually obtained for themselves and when those amounts had gone to entities that were not named respondents in the OSC proceedings.

Justice Sachs found that the disgorgement order was proper in the circumstances given the broad wording of the OSA which allows the disgorgement of “any amounts obtained” and has no limitation based on the individual’s use of the funds. She also pointed to the OSC’s ability to make orders of “general deterrence”.   She also stated that individuals cannot shelter themselves from sanctions conducted through companies that they control.  Also important was the fact that the Appellants were both registrants and therefore in positions of trust and that they had committed fraud, one of the most serious violations.


The Divisional Court decision provides important guidance for exempt market dealer in Ontario who sell related products.  It also provides insight into when an OSC panel will find fraud in the context of the failure to make adequate disclosure in a private placement context.  It also shows the reluctance of the court to grant an appeal from findings and decisions of the Ontario Securities Commission.

For more information, please call Barbara Hendrickson at BAX Securities Law (416) 601 -1004.

This publication is not intended to constitute legal advice. No one should act on it or refrain from acting on it without consulting with a lawyer. BAX does not warrant or guarantee the accuracy or currency or completeness of the publication. No part of this publication may be reproduced without the prior written permission of BAX Securities Law.