PRIVILEGED AND CONFIDENTIAL — ATTORNEY WORK PRODUCT This memorandum has been prepared by Calderwood & Harkness LLP in connection with legal representation of the Initial Purchasers in the above-captioned transaction. It is protected by the attorney-client privilege and the work product doctrine. Do not distribute, copy, or disclose this memorandum or its contents to any third party without the prior written consent of the undersigned.
CALDERWOOD & HARKNESS LLP
INTERNAL MEMORANDUM
Matter No.: 1039-00002
Date: February 2022 (prepared in connection with due diligence sessions conducted February 14–16, 2022; updated through closing April 19, 2022)
To: Vivienne St. Claire, Responsible Partner, Capital Markets Robert Adeyemi, Billing Partner, Capital Markets
From: Audrey Zhou, Lead Associate, Capital Markets Brendan Walsh, Working Associate, Capital Markets
Re: Due Diligence Memorandum — Litigation & Contingencies: Torchlight Mining Corp. — $300,000,000 8.750% Senior Secured Notes due 2029 (Rule 144A / Regulation S Offering)
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I. PURPOSE AND SCOPE
The purpose of this memorandum is to summarize and analyze all pending, threatened, and recently settled litigation and other contingent liabilities involving Torchlight Mining Corp. ("TMC" or the "Company") and its subsidiaries — specifically, Wolverine Lake Mining Ltd. ("WLML"), Torchlight Milling & Processing Inc. ("TMPI"), and Torchlight U.S. Holdings, Inc. ("TUSHI") — in connection with the offering (the "Offering") of $300,000,000 aggregate principal amount of 8.750% Senior Secured Notes due 2029 (the "Notes"). The Notes are being offered pursuant to Rule 144A under the Securities Act of 1933, as amended (the "Securities Act"), and Regulation S under the Securities Act.
This memorandum is prepared for use by the deal team in connection with the following analytical workstreams:
1. Offering Memorandum Disclosure. We assess the materiality of each identified matter for purposes of disclosure in the Offering Memorandum, including both the Preliminary Offering Memorandum circulated to prospective investors on February 4, 2022 (the "Preliminary OM") and the Final Offering Memorandum dated March 14, 2022 (the "Final OM"). Our analysis addresses whether each identified matter warrants specific disclosure in the "Risk Factors," "Legal Proceedings," or "Description of Business" sections of the OM, and whether the general risk factor language adopted in the OM is adequate to address routine litigation matters.
2. Purchase Agreement Representations and Warranties. We assess the potential impact of identified litigation and contingencies on the representations and warranties contained in the Purchase Agreement executed March 29, 2022 (the "Purchase Agreement") among TMC (as Issuer), WLML, TMPI, and TUSHI (as Guarantors, and together with the Issuer, the "Obligors"), and the Initial Purchasers: Kelvantis Capital Markets LLC, Prestige Barrington & Co., Inc., and Halcyon Securities Inc. (collectively, the "Initial Purchasers"). In particular, we evaluate whether the Company is able to make and bring down the representation that there are no pending or, to the Company's knowledge, threatened legal proceedings that would reasonably be expected to have a Material Adverse Effect (as defined in the Purchase Agreement).
3. Indenture Event of Default Analysis. We evaluate whether any litigation or contingency constitutes, or could reasonably be expected to constitute, an Event of Default under the Indenture dated as of April 19, 2022 (the "Indenture") among TMC, the Guarantors, and Northern Dominion Trust Company, as Trustee and Collateral Agent (the "Trustee").
4. 10b-5 / Negative Assurance Analysis. This memorandum is intended to inform the firm's 10b-5 / negative assurance analysis, which is set forth in a separate memorandum (the "10b-5 Memorandum") being prepared concurrently. Our litigation findings feed directly into the determination of whether the Final OM, as of its date and as of the Closing Date, contains any untrue statement of a material fact or omits to state a material fact necessary to make the statements therein, in light of the circumstances under which they were made, not misleading.
Scope of Review. Our review encompasses all entities in the TMC corporate group (TMC, WLML, TMPI, and TUSHI). The litigation search period covers the past five years, from January 1, 2017 through the Closing Date of April 19, 2022. Our analysis is based upon a comprehensive review of the following categories of sources, which are described in greater detail in Section II below:
• Management representations, including officer and director questionnaire responses;
• The litigation docket maintained by the TMC in-house legal department;
• Corporate records and insurance coverage summaries;
• Publicly available court filings and registry searches;
• Regulatory databases and compliance records;
• Audited financial statements and notes thereto for fiscal years 2019, 2020, and 2021; and
• Discussions with Deepak Rathore (General Counsel & Corporate Secretary, TMC) and Stavros Katsaros (General Manager, Mine Operations, WLML), conducted during the due diligence sessions of February 14–16, 2022 and the bring-down update call of March 22, 2022.
This memorandum should be read in conjunction with the Due Diligence Memorandum — Environmental & Regulatory, the Due Diligence Memorandum — Material Contracts & Mining Rights, and the 10b-5 / Negative Assurance Analysis Memorandum, each of which addresses related but distinct aspects of the due diligence investigation.
II. SOURCES AND METHODOLOGY
A. Document Review
Our document review was conducted in multiple phases, commencing with the initial due diligence request list issued to TMC on January 24, 2022 and continuing through the Closing Date. The principal documents and materials reviewed are summarized below.
Officer and Director Questionnaires. We reviewed completed officer and director questionnaires from the following individuals, each of whom was asked to identify all pending, threatened, or recently concluded litigation or regulatory matters involving the Company or any of its subsidiaries, as well as any personal involvement in litigation or regulatory proceedings that could be material to the Offering:
• Magnus Thornberg, Chief Executive Officer, TMC
• Lianne Prokopchuk, Chief Financial Officer, TMC
• Deepak Rathore, General Counsel & Corporate Secretary, TMC
• Colleen Hébert, Treasurer, TMC
• Ingrid Solheim, Chair of the Board of Directors, TMC
Each questionnaire was returned in substantially complete form. No material inconsistencies were identified among the responses, and each respondent certified that, to the best of his or her knowledge, all pending and threatened litigation and contingent liabilities had been disclosed. Mr. Rathore's responses were the most detailed, reflecting his role as General Counsel, and served as the primary baseline for our subsequent verification work.
Litigation Docket. TMC's in-house legal department maintains a litigation docket that tracks all active and recently concluded legal matters involving any TMC entity. We reviewed the current docket as of February 14, 2022, and received an updated version as of March 22, 2022 in connection with the bring-down update. The docket includes matter descriptions, opposing party names, forum and jurisdiction, outside counsel (where engaged), status, and estimated exposure ranges. We cross-referenced the docket against the officer questionnaire responses and our independent registry search results and identified no undisclosed matters.
Insurance Coverage Summaries. TMC's risk management department provided summaries of all material insurance policies in effect, including general commercial liability, directors' and officers' liability, environmental liability, and workers' compensation coverage. These summaries were reviewed at a high level for purposes of assessing the adequacy of coverage for identified litigation matters. A more detailed coverage analysis is available if required but is beyond the scope of this memorandum.
Audited Financial Statements. We reviewed the audited consolidated financial statements of TMC for the fiscal years ended December 31, 2019, December 31, 2020, and December 31, 2021, each audited by Aldgate Thornton LLP (engagement partner: Francesca Hui, CPA, CA). Our focus was on the notes to the financial statements relating to litigation-related accruals, contingent liability disclosures, and commitments. We also reviewed management's discussion and analysis of financial condition and results of operations ("MD&A") for each of these fiscal years.
For purposes of materiality assessments throughout this memorandum, we have used the following financial benchmarks derived from the FY 2021 audited financial statements:
These benchmarks are used as reference points for evaluating the relative financial significance of each identified matter. We note that materiality for securities disclosure purposes is a mixed question of quantitative significance and qualitative factors, and our assessments reflect both dimensions.
TSX Continuous Disclosure Filings. We reviewed TMC's continuous disclosure filings on the Toronto Stock Exchange, including the most recent Annual Information Form ("AIF") and MD&A, for consistency with the information provided in the officer questionnaires and the litigation docket.
B. Database and Registry Searches
We conducted litigation and regulatory searches across all relevant jurisdictions in which TMC and its subsidiaries operate or are organized. The searches were designed to identify any matters naming any TMC entity as a party (whether as plaintiff, defendant, respondent, or otherwise), and covered the five-year period from January 1, 2017 through the date of each search. Specifically, we searched the following databases and registries:
• Ontario Superior Court of Justice — online case search, including the Thunder Bay and Toronto registries, for matters involving WLML, TMPI, TMC, or any known trade name or former name;
• Federal Court of Canada — registry search for matters involving any TMC entity, including regulatory appeals and judicial review applications;
• British Columbia Supreme Court — registry search in Vancouver, where TMC maintains its registered and principal office at 2200 – 400 Burrard Street, Vancouver, BC V6C 3A6;
• Delaware Court of Chancery and Superior Court — search for matters involving Torchlight U.S. Holdings, Inc. (registered office: 1209 Orange Street, Wilmington, DE 19801; EIN: 84-3921057);
• United States Federal Courts (PACER) — nationwide search for matters naming any TMC entity as a party in any U.S. federal court proceeding;
• Ontario Ministry of Labour, Immigration, Training and Skills Development — search for workplace safety orders, compliance orders, and enforcement actions relating to WLML and TMPI mine and processing operations;
• Ontario Ministry of the Environment, Conservation and Parks — search for compliance orders, Certificates of Approval, environmental penalty orders, and prosecutions (cross-referenced with the Environmental & Regulatory Due Diligence Memorandum for completeness); and
• Canadian Securities Administrators (CSA) — search of the National Registration Database and enforcement databases for enforcement actions, cease trade orders, or proceedings involving TMC or any of its directors or officers.
The results of these searches are consistent with the information provided by management and reflected in the litigation docket. No undisclosed matters were identified through the registry searches. Copies of the search results are included in Appendix B.
C. Management Interviews
We conducted the following management interviews in connection with this litigation due diligence review:
Deepak Rathore, General Counsel & Corporate Secretary, TMC. A comprehensive litigation interview was conducted on February 14, 2022 as part of the management due diligence sessions held February 14–16, 2022 at TMC's Vancouver headquarters. Mr. Rathore provided an overview of all pending, threatened, and recently settled matters, described the Company's litigation management practices and insurance coverage, and addressed specific questions arising from our document review and registry search results. Mr. Rathore also identified the First Nations consultation demand letter (Item 9 herein) as a matter of particular concern to management in light of the Phase II expansion plans and the contemplated use of proceeds from the Offering.
Stavros Katsaros, General Manager, Mine Operations, WLML. An interview was conducted on February 15, 2022, during which Mr. Katsaros addressed mine-site operational claims, workplace injury matters, the WSIB claims history, the environmental compliance order relating to the tailings storage facility, and the Fisheries Act inspection and warning letter. Mr. Katsaros confirmed that enhanced water treatment measures had been implemented in response to the Provincial Officer's Order and that WLML's WSIB experience rating remained within the normal range for underground hard-rock mining operations.
Follow-Up Call with Deepak Rathore. A closing bring-down update call was conducted on March 22, 2022. Mr. Rathore confirmed that no new litigation or threatened claims had arisen since the February 14, 2022 interview, and that the status of all previously identified matters remained substantially unchanged. Mr. Rathore also confirmed that the CRA transfer pricing audit was ongoing with no reassessment notice received, and that discussions with the First Nation community regarding the Phase II expansion remained constructive.
Coordination with Canadian Counsel. Throughout the due diligence process, we coordinated with Pendleton Ross LLP (Marie-Claire Bouchard, Lead Partner), Canadian counsel to the Initial Purchasers, on Canadian law matters and regulatory proceedings. Pendleton Ross LLP provided guidance on the duty to consult framework, the Ontario Environmental Protection Act compliance order process, and WSIB statutory immunity principles, among other matters. Their analysis has informed the assessments reflected herein.
III. SUMMARY OF FINDINGS — OVERVIEW TABLE
Set forth below is a summary table listing each identified matter, together with key classification information, exposure estimates, accrual status, and our materiality assessment. The detailed analysis of each matter follows in Sections IV through VI of this memorandum.
Summary by Category:
Overall Conclusion. Based on our review, no individual pending or threatened matter, and no aggregate of matters, is expected to have a material adverse effect on the financial condition, results of operations, or business of the Company and its subsidiaries, taken as a whole. Total quantified litigation-related accruals as of FY 2021 year-end amount to approximately CAD $1.7 million, which is immaterial relative to consolidated revenue, EBITDA, and total assets. Certain matters, however, warrant specific or enhanced disclosure in the Offering Memorandum risk factors, as discussed in Section IX below.
IV. PENDING LITIGATION
A. Employment and Labor Matters
1. Wrongful Dismissal Claim — Former Mine Supervisor
Claimant: A former mine shift supervisor at the Wolverine Lake mine site (name redacted for purposes of this memorandum in accordance with privilege protocols).
Defendant: Wolverine Lake Mining Ltd.
Forum: Ontario Superior Court of Justice, Thunder Bay.
Date Filed: Approximately mid-2021 (Statement of Claim issued in or around June 2021).
Allegations: The claimant alleges that WLML terminated his employment without cause and without providing adequate notice or severance pay. The Statement of Claim seeks damages on the following bases: (i) common law reasonable notice period damages, calculated on the basis of an approximately 12-year tenure, the claimant's age (mid-50s), and the specialized nature of underground mining supervision, resulting in an asserted entitlement to approximately 18 months' compensation in lieu of notice; (ii) continuation of employment benefits during the reasonable notice period; and (iii) moral and/or aggravated damages arising from the alleged manner of dismissal, which the claimant characterizes as abrupt and conducted in a manner that caused undue hardship and reputational harm in a small mining community.
Amount Claimed: Approximately CAD $350,000, inclusive of all heads of damages.
Status: The matter is pending and is in the discovery stage. Examinations for discovery have not yet been scheduled. No motion for summary judgment has been brought.
TMC/WLML Position: As confirmed by Deepak Rathore, WLML's position is that the termination was for just cause, based on documented performance deficiencies and violations of mine safety protocols, including a failure to comply with mandatory confined space entry procedures on two documented occasions. WLML maintains that the documented performance issues and safety violations establish just cause for termination without notice or severance under both the common law and the Ontario Employment Standards Act, 2000. Outside litigation counsel has been retained and has advised that WLML has a strong defense, although Mr. Rathore acknowledged the inherent uncertainty of wrongful dismissal litigation and the high threshold for establishing just cause under Ontario common law.
Accrual: No accrual has been recorded in the FY 2021 audited financial statements. Management, in consultation with Aldgate Thornton LLP, has determined that a loss is not probable given the strength of the just cause defense, and accordingly no provision is required under IFRS (IAS 37). Aldgate Thornton LLP concurs with this position.
Materiality Assessment: This matter is not material on an individual basis. The claimed amount of approximately CAD $350,000 represents approximately 0.06% of FY 2021 revenue (CAD $612.4 million) and approximately 0.18% of FY 2021 Adjusted EBITDA (CAD $189.7 million). Even in a worst-case scenario where WLML is found liable for the full amount claimed, the financial impact would be de minimis to the consolidated financial position of TMC and its subsidiaries.
OM Disclosure: Specific individual disclosure in the Offering Memorandum is not warranted on a standalone basis. The matter is adequately covered by the general risk factor language regarding employment claims inherent in the operation of a mining business with a large workforce, which was included in the Final OM.
2. Grievance Arbitrations — Collective Agreement Matters
Parties: United Steelworkers local (the "Union") representing hourly employees at WLML and TMPI, on behalf of various individual grievors.
Forum: Arbitration proceedings conducted under the grievance and arbitration provisions of the collective bargaining agreements between the Union and WLML and between the Union and TMPI, respectively.
Nature of Grievances: At the time of our review, there were multiple pending grievances at various stages of the arbitration process. The principal categories of grievances are as follows:
(a) Overtime Allocation Grievances. Several grievances challenge management's allocation of overtime opportunities among bargaining unit employees, alleging violations of the seniority-based overtime distribution provisions of the collective agreement. The Union asserts that certain employees were bypassed in favor of more junior workers, resulting in lost overtime earnings.
(b) Job Posting Grievances. A small number of grievances relate to the posting and filling of certain bargaining unit positions, alleging that management failed to post vacancies in accordance with the collective agreement or improperly awarded positions to external hires rather than internal candidates with seniority rights.
(c) Suspension Grievance. One grievance challenges a three-day disciplinary suspension imposed on a bargaining unit employee for an alleged safety violation. The Union contends that the suspension was without just cause and that the employee's conduct did not warrant discipline.
Aggregate Potential Exposure: The aggregate potential exposure across all pending grievances is estimated at under CAD $200,000, based on the range of potential remedies (back pay, reinstatement of overtime, reversal of discipline). This estimate was provided by Mr. Rathore and is consistent with our understanding of typical arbitration awards in the mining sector.
Status: The grievances are proceeding through the standard multi-step grievance and arbitration process under the collective agreements. Some may be resolved at earlier stages through settlement discussions between WLML/TMPI management and the Union. Arbitration hearing dates have been set for certain grievances but are not imminent.
Materiality Assessment: These matters are not material, either individually or in the aggregate. Grievance arbitrations are a routine and expected feature of labor relations in a unionized mining operation and do not warrant specific disclosure. The aggregate exposure of under CAD $200,000 is de minimis relative to any applicable financial benchmark.
OM Disclosure: Individual disclosure is not warranted. The general risk factor language in the Final OM addressing labor relations, collective bargaining, and the risk of work stoppages or labor disputes is adequate.
B. Environmental and Regulatory Proceedings
3. Ontario Ministry of the Environment Compliance Order — Tailings Management
Issuing Authority: Ontario Ministry of the Environment, Conservation and Parks ("MOECP").
Recipient: Wolverine Lake Mining Ltd.
Nature of Order: In approximately late 2020, a Provincial Officer issued a Provincial Officer's Order (the "Compliance Order") under the Ontario Environmental Protection Act ("EPA") requiring WLML to implement enhanced monitoring and remediation measures with respect to water discharge quality from the tailings storage facility ("TSF") at the Wolverine Lake mine site. The Compliance Order was issued following seasonal environmental monitoring conducted by MOECP inspectors, which detected elevated levels of suspended solids in water discharged from the TSF into a receiving watercourse. The measured suspended solids concentrations exceeded the limits specified in WLML's Environmental Compliance Approval ("ECA") for the TSF.
Response and Remedial Actions: Upon receipt of the Compliance Order, WLML retained qualified environmental consultants to assess the cause of the elevated suspended solids and to design and implement remedial measures. The following corrective actions have been taken:
(a) Installation of additional monitoring wells at the TSF perimeter and downstream of the discharge point to provide enhanced real-time monitoring of water quality parameters;
(b) Upgrades to the TSF water treatment system, including the installation of supplemental flocculant dosing equipment and additional settling capacity;
(c) Modification of seasonal water management protocols to reduce discharge volumes during high-flow periods when suspended solids concentrations tend to be elevated; and
(d) Submission of a comprehensive compliance report to the MOECP detailing the corrective actions taken and the results of post-remediation monitoring.
Current Status: As of the date of this memorandum, WLML is in active compliance with the terms of the Compliance Order. The remedial measures described above have been substantially implemented. However, the Compliance Order remains formally open pending final compliance confirmation from the MOECP, which requires a determination by the Provincial Officer that the enhanced measures are achieving the required water quality standards on a sustained basis. No fines or penalties have been assessed to date under the Compliance Order.
Estimated Remediation and Compliance Costs: WLML's estimated costs for the remediation and compliance measures described above are approximately CAD $1.2 million. The substantial majority of this amount has been expended as of the FY 2021 year-end and has been recorded as a provision in the FY 2021 audited financial statements.
Potential Exposure if Non-Compliance Persists or Escalates: If WLML were to fail to achieve sustained compliance with the Compliance Order or the ECA, the MOECP has the authority under the EPA to impose administrative monetary penalties, issue further orders (including cease-to-discharge orders that could impact operations), or refer the matter for prosecution under the EPA. In a worst-case scenario involving prosecution, fines under the EPA for a first-offense corporate violation can range up to CAD $6.0 million per day of the offense. However, based on the nature of the contravention (elevated suspended solids, not a discharge of toxic or hazardous substances), the prompt corrective response by WLML, and the absence of any demonstrated environmental harm, we assess the realistic worst-case penalty exposure to be in the range of CAD $500,000 to CAD $2.0 million.
Materiality Assessment: This matter is not individually material to the consolidated financial statements, given that the remediation costs have been substantially expended and provisioned, and the penalty exposure (even in a worst-case scenario) is modest relative to the Company's financial position. However, environmental compliance is a significant operational and reputational risk factor for mining companies, and this matter is representative of the broader category of environmental risks that are appropriately disclosed in the Offering Memorandum.
Cross-Reference: A detailed analysis of this matter, including the technical environmental aspects, is set forth in the Due Diligence Memorandum — Environmental & Regulatory.
OM Disclosure: This matter is referenced in the Risk Factors section of the Final OM (under "Environmental Compliance Risks") and in the Description of Business section (under "Environmental Matters"). We are satisfied that the level of disclosure is appropriate and adequate.
4. Fisheries Act Investigation (Federal)
Nature: In 2021, officers of Environment and Climate Change Canada ("ECCC") conducted a routine compliance inspection at the Wolverine Lake mine site regarding water discharge into fish-bearing waterways. The inspection was conducted under the federal Fisheries Act, which prohibits the deposit of deleterious substances into waters frequented by fish. The Wolverine Lake property encompasses approximately 12,400 hectares and includes mining claim numbers WL-4492-01 through WL-4492-47. Several watercourses traversing or adjacent to the property are classified as fish-bearing under federal and provincial habitat designations.
Findings: The ECCC inspection did not identify any unauthorized deposit of deleterious substances into fish-bearing waters. However, the inspectors noted certain deficiencies in WLML's environmental monitoring record-keeping practices, specifically relating to the timeliness and completeness of water sampling records required to be maintained under WLML's Fisheries Act authorizations.
Outcome: No charges were laid under the Fisheries Act or any related regulation. WLML received a written warning letter from ECCC regarding the record-keeping deficiencies identified during the inspection. The warning letter does not constitute a formal enforcement action or a finding of contravention, but it is retained on file and may be considered in any future compliance assessment. In response to the warning letter, WLML implemented corrective measures to its record-keeping protocols, including the adoption of an electronic environmental data management system and the assignment of a dedicated environmental monitoring technician at the mine site.
Exposure: Minimal. No charges are pending, no penalties have been imposed, and the corrective measures have been implemented. The warning letter itself does not create any ongoing legal obligation beyond the existing regulatory requirements.
Materiality Assessment: Not material.
OM Disclosure: General environmental risk factor language in the Final OM is adequate. No specific individual disclosure is warranted.
C. Commercial and Contractual Disputes
5. Dispute with Former Drilling Contractor
Claimant: A former underground drilling services contractor engaged by WLML to provide diamond drilling and related services at the Wolverine Lake mine site (name redacted in accordance with privilege protocols; the "Contractor").
Defendant: Wolverine Lake Mining Ltd.
Forum: Ontario Superior Court of Justice, Thunder Bay.
Date Filed: The Contractor's Statement of Claim was issued in late 2021.
Nature of Claim: The Contractor alleges that WLML breached the drilling services agreement (the "Drilling Agreement") by prematurely terminating the contract prior to the completion of the agreed scope of work. Specifically, the Contractor asserts that WLML terminated the Drilling Agreement without lawful basis and in bad faith, resulting in the following categories of damages:
(a) Lost profits for the remaining term of the Drilling Agreement, calculated on the basis of the Contractor's projected margin on the unperformed work;
(b) Demobilization costs, including the costs of removing drilling equipment and personnel from the mine site; and
(c) Incidental damages, including the alleged loss of other contract opportunities during the period when the Contractor's equipment was committed to the WLML engagement.
Amount Claimed: Approximately CAD $2.8 million.
TMC/WLML Position and Counterclaim: WLML's position, as confirmed by Deepak Rathore, is that the Drilling Agreement was terminated in accordance with a performance-based termination clause that permitted WLML to terminate without penalty if the Contractor failed to meet specified drill-rate benchmarks and safety performance standards. WLML contends that the Contractor's actual drill rates fell materially below the contractual benchmarks for three consecutive measurement periods, and that the Contractor committed multiple safety infractions, including failure to comply with ground support installation standards in development headings.
WLML has filed a counterclaim against the Contractor in the approximate amount of CAD $1.1 million, seeking recovery of the following:
(a) The incremental costs incurred by WLML in engaging a replacement drilling contractor on an expedited basis at premium rates;
(b) The costs of remedial drilling required to correct deficiencies in holes drilled by the Contractor; and
(c) Standby and delay costs attributable to the interruption in the drilling program.
Status: The matter is pending. A pre-trial mediation session has been scheduled, and WLML's outside litigation counsel has expressed cautious optimism that a negotiated resolution may be achievable at mediation, although no settlement discussions have been initiated to date.
Insurance: WLML's general commercial liability policy may provide partial coverage for certain aspects of this dispute, including defense costs. The coverage position is currently under review by TMC's insurance broker and coverage counsel, and a determination has not yet been made.
Accrual: An accrual of CAD $500,000 has been recorded in the FY 2021 audited financial statements as a conservative estimate of the net exposure after giving effect to the counterclaim. This accrual was discussed with and agreed to by Aldgate Thornton LLP during the FY 2021 audit process.
Materiality Assessment: This matter is not material on an individual basis. The gross claim amount of approximately CAD $2.8 million represents approximately 0.46% of FY 2021 revenue and approximately 1.48% of FY 2021 Adjusted EBITDA. When the counterclaim is taken into account, the net exposure is substantially lower. The accrued amount of CAD $500,000 represents approximately 0.08% of FY 2021 revenue. Under any reasonable application of quantitative materiality thresholds, this matter does not rise to the level of individual materiality for securities disclosure purposes.
OM Disclosure: This matter is referenced in the general litigation risk factor language in the Final OM. Given its financial immateriality, specific individual disclosure is not warranted, and the matter is adequately addressed by the general disclosure that the Company is party to routine commercial disputes arising in the ordinary course of its mining operations. We note that the matter is disclosed in the notes to the FY 2021 audited financial statements, which are included in the Final OM.
6. Equipment Lien Dispute
Nature: A dispute arose between WLML and a heavy equipment supplier (the "Supplier") regarding the Supplier's assertion of retention of title and/or lien claims on certain pieces of underground mining equipment that had been delivered to the Wolverine Lake mine site. The Supplier asserted that full payment had not been received for the equipment and that it was entitled to assert a lien or retain title under the applicable sale agreement and the Ontario Personal Property Security Act.
Amount in Dispute: Approximately CAD $750,000, representing the alleged outstanding balance on the equipment purchase.
Resolution: This matter was resolved through negotiation between WLML and the Supplier in Q4 2021. WLML made a final payment to the Supplier in full satisfaction of the outstanding balance, and the Supplier executed a discharge and release of all lien claims. The lien was formally discharged from the Ontario Personal Property Security Act registration system.
Relevance to the Offering: This matter was identified during our review specifically because of its potential relevance to the collateral package for the Notes. The Notes are secured by a first-priority lien on all tangible and intangible assets of the Issuer and the Guarantors, as more fully described in the Canadian General Security Agreement and the U.S. Security Agreement. It is therefore critical that all pre-existing liens and encumbrances have been identified and, where necessary, discharged. We have confirmed that the Supplier's lien has been fully discharged and that no residual claim exists with respect to the equipment in question. The equipment is included in the collateral pool without encumbrance.
Materiality Assessment: Not material. The matter has been fully resolved.
D. Personal Injury / Workers' Compensation
7. Workplace Injury Claims
Statutory Framework. WLML and TMPI operate in the Province of Ontario, where workplace injuries sustained by workers in the mining sector are generally covered by the statutory workers' compensation scheme administered by the Workplace Safety and Insurance Board ("WSIB"). Under the Ontario Workplace Safety and Insurance Act, 1997 ("WSIA"), employers who are covered by the WSIB scheme are afforded statutory immunity from civil suits by workers (and their dependents) for injuries arising out of and in the course of employment, subject to narrow exceptions. This statutory bar significantly limits the exposure of WLML and TMPI to civil tort claims for workplace injuries.
Pending WSIB Claims. At the time of our review, there were two pending WSIB claims relating to injuries sustained at the Wolverine Lake mine site:
(a) Fall from Height. A worker sustained injuries in an underground fall from height incident. The worker filed a WSIB claim for loss-of-earnings benefits and health care benefits. The claim is being processed through the standard WSIB adjudication process. WLML has cooperated with the WSIB investigation and has implemented additional fall-protection measures in the area where the incident occurred.
(b) Equipment-Related Hand Injury. A worker sustained a hand injury in an incident involving a piece of mobile mining equipment. The worker filed a WSIB claim and is receiving benefits. An investigation by the WLML joint health and safety committee was conducted, and corrective measures were implemented.
Both claims are proceeding through the normal WSIB process and are not expected to result in any civil liability to WLML, given the statutory immunity provisions of the WSIA.
Historical Civil Action (Dismissed). In 2019, a former WLML employee attempted to commence a civil action in the Ontario Superior Court of Justice for injuries allegedly sustained at the mine site, asserting that the injuries arose from the gross negligence of WLML management. WLML brought a motion to dismiss the action on the basis of the WSIB statutory bar. The court granted the motion and dismissed the civil action, holding that the plaintiff's injuries arose out of and in the course of employment and that the statutory immunity applied notwithstanding the plaintiff's allegation of gross negligence. No appeal was taken.
WSIB Premium Experience Rating. WLML's current WSIB premium experience rating is within the normal range for underground hard-rock mining operations in Ontario, as confirmed by Stavros Katsaros during the February 15, 2022 interview. This indicates that WLML's workplace injury frequency and severity are not significantly above the industry norm, and that WSIB premiums are not subject to material surcharges.
Materiality Assessment: These matters are not material. Workplace injuries and WSIB claims are routine incidents in the mining industry, and the statutory immunity from civil suits significantly limits exposure. The pending claims are being managed through the standard WSIB process.
OM Disclosure: The Final OM includes general risk factor language regarding workplace safety risks inherent in underground mining operations, including the risk of workplace injuries and the potential for regulatory penalties under occupational health and safety legislation. No specific individual disclosure of the pending WSIB claims is warranted.
E. Tax Matters
8. Canada Revenue Agency Audit — Transfer Pricing
Nature of Audit. The Canada Revenue Agency ("CRA") commenced a limited-scope audit of TMC's transfer pricing arrangements with Torchlight U.S. Holdings, Inc. for the FY 2019 and FY 2020 taxation years. The audit is focused on the intercompany pricing applied to nickel and copper concentrate marketing and offtake arrangements between the Canadian operations (WLML and TMPI, which mine and process the concentrate) and TUSHI, which holds the U.S. offtake and marketing contracts with third-party purchasers. The CRA's review is examining whether the transfer prices applied to intercompany sales of concentrate from the Canadian entities to TUSHI are consistent with arm's-length pricing principles under section 247 of the Income Tax Act (Canada) and the Canada-U.S. Tax Treaty.
Background. TMC's transfer pricing methodology for the intercompany concentrate sales is based on a comparable uncontrolled price ("CUP") method, with reference to published commodity benchmark prices adjusted for quality differentials, transportation costs, and marketing fees. TMC engaged external transfer pricing advisors to prepare contemporaneous transfer pricing documentation for the relevant taxation years, and the documentation was provided to the CRA in response to initial information requests.
Status of Audit. The CRA audit is ongoing. The CRA has issued multiple information requests, to which TMC (through Deepak Rathore and external tax advisors) has responded. As of the date of this memorandum, no reassessment notice has been issued by the CRA. According to Mr. Rathore, the CRA auditors have not indicated that they intend to propose any adjustments, but the audit process has not been formally concluded. The external tax advisors have reviewed the information provided to the CRA and are of the view that the transfer pricing methodology is defensible and consistent with the arm's-length principle and OECD Transfer Pricing Guidelines.
Potential Exposure. If the CRA were to successfully challenge the transfer pricing methodology and reassess TMC on the basis of an upward adjustment to the Canadian taxable income for FY 2019 and FY 2020, the estimated additional tax and interest exposure would be in the range of CAD $3.0 million to CAD $8.0 million, depending on the magnitude of the pricing adjustment. Transfer pricing penalties under subsection 247(3) of the Income Tax Act could apply in addition to tax and interest if the CRA were to take the position that TMC did not make reasonable efforts to determine and use arm's-length prices. However, the existence of contemporaneous transfer pricing documentation should provide a defense against penalties.
In addition, any Canadian transfer pricing adjustment could result in a corresponding adjustment in the United States under the competent authority provisions of the Canada-U.S. Tax Treaty, which could mitigate the overall economic impact to the TMC group on a consolidated basis, although the competent authority process is time-consuming and uncertain.
Accrual. No specific litigation or contingency accrual has been recorded in the FY 2021 audited financial statements for this matter. Management, in consultation with Aldgate Thornton LLP, considers that a reassessment is not probable and that the transfer pricing methodology is sound. Accordingly, no provision is required under IAS 37 at this time.
Materiality Assessment. This matter is in the "monitor" category. In a worst-case scenario, the estimated exposure of CAD $3.0 million to CAD $8.0 million (plus potential penalties) could be material depending on the magnitude of any reassessment. However, management and the external tax advisors consider the risk of an adverse outcome to be low, and no reassessment has been issued. We recommend that the status of the CRA audit be monitored on a quarterly basis (see Section X — Recommendations and Open Items).
OM Disclosure. The CRA transfer pricing audit is addressed in the Risk Factors section of the Final OM under tax-related risks. The disclosure includes general language regarding the Company's exposure to transfer pricing audits by Canadian and U.S. tax authorities and the potential for material tax reassessments. We are satisfied that the level of disclosure is appropriate.
V. THREATENED LITIGATION
9. First Nations Consultation Claim — Threatened
Nature of Claim. In late 2021, counsel for a First Nations community (the "First Nation") located in proximity to the Wolverine Lake mine site sent a demand letter (the "Demand Letter") to TMC and WLML asserting that TMC had failed to adequately consult with the First Nation in connection with the planned Phase II expansion of the Wolverine Lake mine. The Phase II expansion involves the construction of a new decline ramp and ventilation raise to access the Wolverine Deep zone, which lies at depth beneath the existing mine workings. Phase II represents a significant capital investment, with an estimated total capital expenditure of CAD $215 million and a planned construction timeline of Q2 2022 through Q4 2024.
Specific Allegations in the Demand Letter. The Demand Letter asserts that:
(a) TMC and WLML failed to adequately consult with the First Nation regarding the Phase II expansion in accordance with the constitutional duty to consult and accommodate, as established by the Supreme Court of Canada in Haida Nation v. British Columbia (Minister of Forests), [2004] 3 S.C.R. 511;
(b) The Phase II expansion will have potential adverse impacts on the First Nation's asserted Aboriginal and treaty rights, including hunting, trapping, and harvesting rights exercised in the area, as well as potential impacts on culturally significant sites;
(c) The environmental assessment process for Phase II has been inadequate and has not sufficiently considered the First Nation's rights and interests; and
(d) The First Nation reserves its right to seek injunctive relief to prevent the commencement of Phase II construction activities until meaningful consultation has been completed and appropriate accommodation measures have been agreed upon.
No Statement of Claim or application for injunctive relief has been filed to date.
TMC Response. In response to the Demand Letter, TMC has taken the following steps:
(a) TMC engaged a specialized community relations consultant with experience in Indigenous engagement in the Canadian mining sector to advise on and facilitate enhanced consultation processes;
(b) TMC and WLML initiated direct engagement discussions with the First Nation's chief and council, including meetings held in January and February 2022;
(c) TMC proposed an enhanced benefit-sharing framework, including employment and procurement opportunities for members of the First Nation, financial contributions to community programs, and environmental monitoring participation; and
(d) Management reports that the dialogue with the First Nation has been constructive and that both parties have expressed a willingness to work toward a mutually acceptable outcome.
Legal Analysis. The duty to consult with Indigenous peoples in Canada is a constitutional obligation arising from section 35 of the Constitution Act, 1982. The duty is triggered when the Crown contemplates conduct that may adversely affect asserted or established Aboriginal or treaty rights. While the primary duty to consult rests with the Crown (i.e., the federal or provincial government), the Crown may delegate procedural aspects of consultation to project proponents such as TMC. In practice, mining companies operating on or near Indigenous traditional territories are expected to engage in meaningful consultation as part of the environmental assessment and permitting process.
We have coordinated with Pendleton Ross LLP (Marie-Claire Bouchard) on the analysis of the duty to consult framework as it applies to the Phase II expansion. Ms. Bouchard's preliminary assessment is that while the First Nation has identified legitimate concerns that should be addressed through enhanced engagement, the risk of a successful injunction application can be mitigated through good-faith consultation and the development of an appropriate accommodation framework. The strength of any injunction application would depend on the adequacy of the consultation process undertaken to date and the seriousness of the potential impacts on the First Nation's rights — factors that are within TMC's ability to influence through proactive engagement.
Relevance to the Offering. This matter has particular significance in the context of the Offering because the Phase II expansion is the primary stated use of proceeds from the Notes. The Final OM specifies that approximately $167,000,000 of the estimated net proceeds of the Offering (after deducting discounts and estimated expenses) will be allocated to fund Phase II capital expenditures. Accordingly, any material delay in, or injunction against, the commencement or completion of Phase II construction could impact TMC's ability to deploy the proceeds as described in the OM and could adversely affect the Company's projected production profile and cash flow generation, both of which are material to noteholders' investment thesis.
The significance of this matter was also a factor in the extension of the Closing Date from the originally contemplated date of April 5, 2022 to April 19, 2022. The extension was agreed upon among TMC, the Guarantors, and the Initial Purchasers to allow additional time for Canadian regulatory clearance processes related to Phase II permitting, including additional time for the enhanced First Nations consultation process to advance. As of the extended Closing Date of April 19, 2022, management has represented that the consultation process is proceeding on a satisfactory timeline and that no claim or injunction application has been filed.
Materiality Assessment. This matter is assessed as potentially material, notwithstanding that no formal claim has been filed, due to the direct connection between the Phase II expansion and the use of proceeds from the Offering. The risk is assessed as moderate: while the First Nation has articulated legitimate concerns, the constructive nature of the dialogue and TMC's proactive engagement reduce the likelihood of adversarial litigation. However, the matter requires ongoing monitoring.
OM Disclosure. This matter is disclosed in the Risk Factors section of the Final OM under headings relating to Indigenous/First Nations relations and consultation obligations and permitting risks for the Phase II expansion. Additionally, the matter is referenced in the Description of Business section under the discussion of the Phase II Expansion. We are satisfied that the disclosures are adequate and appropriate.
10. Potential Product Quality / Off-Spec Concentrate Claim
Nature. A customer of TMC/WLML raised informal complaints in Q3 2021 regarding alleged off-specification nickel concentrate deliveries. The customer asserted that certain shipments of nickel concentrate did not meet the contractual quality specifications with respect to grade and/or deleterious element content.
Status. No formal demand letter, notice of claim, or statement of claim has been issued. The matter was addressed through commercial discussions between TMC's marketing personnel and the customer's procurement representatives. As a result of those discussions, a minor pricing adjustment was agreed upon for the affected shipments. The customer has continued to accept deliveries under the offtake agreement, and the relationship is described by management as ongoing and satisfactory.
TMC Position. TMC's internal quality assurance and quality control records, including assay certificates and independent third-party sampling results, do not support the customer's off-specification allegations. Management's view is that the pricing adjustment was a commercial accommodation made in the interest of maintaining the customer relationship, rather than an acknowledgment of any contractual breach.
Potential Exposure. Even if the customer were to formalize a claim (which management considers unlikely), the estimated exposure would be under CAD $500,000, based on the volume and value of the affected shipments and the difference between the contract price and the adjusted price.
Materiality Assessment: Not material.
OM Disclosure: Not warranted. The matter is adequately addressed by the general risk factor language regarding product quality and customer relations.
VI. RECENTLY SETTLED MATTERS (PAST 24 MONTHS)
The following matters have been settled or otherwise resolved within the 24 months preceding the Closing Date. They are included in this memorandum for completeness and to confirm that no residual liabilities or obligations remain outstanding that could affect the Offering or the collateral package.
11. Surface Rights Access Dispute — Settled
Nature. A dispute arose between WLML and a private landowner (the "Landowner") regarding surface access rights for exploration activities on a portion of the Wolverine Lake property. The Landowner asserted that WLML did not have valid surface rights to certain parcels of land overlying WLML's mineral claims and that WLML's exploration activities (including drill pad construction and access road improvements) constituted a trespass and interference with the Landowner's use of the surface.
Forum. The Landowner commenced an action in the Ontario Superior Court of Justice seeking damages for trespass and an injunction restraining WLML from further exploration activities on the affected parcels.
Resolution. The matter was settled in early 2021 through a negotiated resolution. The key terms of the settlement were as follows:
(a) WLML acquired the surface rights to the affected parcels through a purchase agreement with the Landowner, securing permanent surface access for mining and exploration activities;
(b) TMC, on behalf of WLML, paid settlement consideration of approximately CAD $650,000 to the Landowner, which included the purchase price for the surface rights and a release of all claims; and
(c) The Landowner provided a full and final release of all claims against WLML, TMC, and their directors, officers, employees, and agents.
Status. Fully resolved. The surface rights are now registered in the name of WLML and are included in the legal description of the Wolverine Lake property for purposes of the mining rights and real property component of the collateral package. The surface rights are subject to the first-priority lien granted under the Canadian General Security Agreement dated April 19, 2022 in favor of Northern Dominion Trust Company, as Collateral Agent, for the benefit of the holders of the Notes.
Materiality Assessment: Not material. The matter has been fully resolved, and the settlement consideration was modest relative to the value of the surface rights acquired and to TMC's financial position.
12. Employment Class/Group Action Threat — Withdrawn
Nature. In mid-2020, a group of approximately 15 former contract workers at the Wolverine Lake mine site sent a demand letter to TMC through counsel, alleging that they had been misclassified as independent contractors rather than employees. The demand letter threatened class proceedings under the Ontario Class Proceedings Act, 1992, seeking a declaration of employment status, retroactive entitlement to employment benefits (including vacation pay, overtime pay, statutory holiday pay, and WSIB coverage), and damages.
TMC Response. Upon receipt of the demand letter, TMC's in-house legal team conducted a comprehensive review of the classification of the affected workers, including an analysis of the contractual arrangements, the degree of control exercised by WLML over the workers' activities, and the economic reality of the working relationship. Based on this review, TMC determined that the classification of certain workers as independent contractors was not clearly defensible under the multi-factor tests applied by Ontario courts and the CRA.
Resolution. TMC took the following corrective actions: