I INSOLVENCY LAW, POLICY AND PROCEDURE
i Statutory framework and substantive law
There are three federal statutes that govern insolvency law in Canada: the Bankruptcy and Insolvency Act (BIA),2 the Companies’ Creditors Arrangement Act (CCAA)3 and the Winding-Up and Restructuring Act (WURA).4 The BIA, together with its regulations, is a self-contained code that deals with the liquidation of assets and the restructuring of debts of individuals, partnerships, corporations (other than certain excluded types of corporations) and other business entities that meet residency and minimal debt requirements. The BIA also provides for receiverships, both in the context of an operating receivership and a liquidating one. The CCAA, together with its regulations, deals only with the restructuring of the debts of corporations (other than certain excluded types of corporations) and income trusts, that meet certain residency requirements and meet higher minimum debt requirements than those found under the BIA. The WURA deals with the liquidation and restructurings of certain specified entities, such as banks and trust companies; in effect, all of those entities and corporations specifically excluded from the BIA and CCAA.
Of the three insolvency statutes, the BIA represents the most complete code, providing substantive provisions dealing with, inter alia, the scope and breadth of stays of proceedings, distributional priorities, fraudulent transfers, the sale of assets, the treatment of contracts, interim financings, cross-border proceedings, and penalties and sanctions against debtors and their directors for violations under the BIA. The BIA also contains provisions dealing with the appointment of receivers and the rules regarding their conduct. Restructurings under the BIA are by way of ‘proposals’ to creditors. Such proposals bind all affected creditors, if approved by the requisite double majority (two-thirds of proved claims and over 50 per cent of creditors per class) and subsequently by the court.
The CCAA is a more flexible statute than the BIA, allowing courts more discretion in assisting restructuring corporations. For example, under the BIA, a stay of proceedings is limited to a maximum of six months in a proposal, and the scope of that stay is set out and limited by statute. There is no limit to the maximum cumulative length of a stay of proceedings under the CCAA, and the court has significant discretion on the scope of the stay of proceedings beyond what is available under the BIA. Like the BIA, the CCAA also has substantive provisions dealing with distributional priorities, fraudulent transfers, the sale of assets, the treatment of contracts, interim financings and cross-border proceedings. Restructurings under the CCAA are done through a ‘plan of compromise or arrangement’. Such plans, if approved by the requisite double majority (the same as under the BIA), and subsequently by the court, bind all affected creditors.
The WURA is less structured than the BIA or the CCAA and is less frequently invoked because it applies primarily to financial institutions.
Both the BIA and the CCAA contain provisions that mandate their review every five years. The BIA and CCAA were last amended in 2009 and the government of Canada launched a public consultation in May 2014 with the release of a discussion paper seeking input on key aspects of Canada’s insolvency regime and its administration. Following a consultation process, a report was tabled before Parliament in 2015. Any future reform will occur following a review by a parliamentary committee and it is unclear when any further amendments to the BIA or CCAA will be considered.
With respect to restructurings, whether it is the debts of individuals or business entities, the objective is to provide a debtor in financial difficulty the time and opportunity to restructure and develop a fresh arrangement with creditors with a view to avoiding a bankruptcy liquidation. The restructuring regimes under each of the BIA, CCAA and WURA are designed to keep debtors in financial difficulty operating and protected from creditor recovery actions, in order to allow the debtor to stabilise operations and develop a restructuring plan that may then be put to its creditors for consideration. If the requisite majorities approve the plan, it binds all affected creditors and the debtor emerges from bankruptcy protection and continues its (restructured) operations.
iii Insolvency procedures
To reorganise under the BIA, an insolvent debtor must have liabilities of at least C$1,000, carry on business in Canada and be insolvent. A BIA reorganisation is commenced by a debtor either lodging a proposal to creditors with a proposal trustee or filing what is known as a notice of intention (NOI) to make a proposal under the BIA. If a NOI is filed, the debtor has 30 days to file a proposal, which may be extended by a court order for up to five additional months, in blocks of no more than 45 days at a time. If the debtor fails to file a proposal by the end of the final period, or if the proposal is rejected, then the debtor is deemed to have made an assignment into bankruptcy. A stay of proceedings is automatically imposed by statute upon a proposal or NOI being filed.
A bankruptcy liquidation commences with either an assignment into bankruptcy by the insolvent debtor or an application for a bankruptcy order by one or more creditors owed at least C$1,000, where the debtor is insolvent and has committed an act of bankruptcy. Once a bankruptcy order or assignment is made, a trustee is appointed over the assets and is charged with collecting and liquidating the assets of the bankrupt with a view to distributing proceeds to creditors. A meeting of creditors takes place shortly after the bankruptcy, and inspectors may be elected by the creditors to oversee and provide instruction to the trustee on how the proceeding is conducted. Once the assets are liquidated, the trustee distributes the proceeds to creditors who have filed proofs of claim based on the priorities scheme set out in the BIA.
To reorganise under the CCAA, a company must carry on business in Canada, have total liabilities exceeding C$5 million and be insolvent. Generally, CCAA proceedings are commenced with a court application by the reorganising debtor for what is known as an ‘initial order’, which establishes the proceeding and sets out the general parameters, including stays of proceedings, provisions that prohibit creditors from enforcing claims against the debtor, provisions that prohibit contracting parties from terminating contracts with the debtor, interim operational matters for the debtor, the appointment of a monitor, and interim financing, if sought. Under the CCAA, there is an initial discretionary stay of proceedings of up to a maximum of 30 days. Thereafter, the stay of proceeding may be extended at the discretion of the court for any additional period of time. In the past, reorganisations have taken the form of the development of a plan of compromise or arrangement, consisting of a proposal to creditors to compromise claims. The time frame in which a debtor has to file a plan is in the discretion of the court. Creditors are grouped into classes based on commonality of interest for purposes of voting and distribution under the plan. A majority in number, representing two-thirds in value of the claim of each creditor class, must approve the plan, as well as the court. If they do, then the plan will be binding on all creditors in the class. The CCAA is silent on the time frame to seek court approval.
Under the WURA, depending on the circumstances, a debtor, a creditor, a shareholder or the Attorney General of Canada may commence a proceeding. A stay of proceedings may be sought from the court by the debtor, creditor, contributory, liquidator or the original applicant. The remedy is discretionary. Upon the making of a winding-up order, an automatic stay is imposed. The WURA provides no restrictions on the amount of time a debtor has to restructure or any restriction on the discretion of the court to grant or restrict such time. There is also no time frame for seeking court approval.
In proceedings under the BIA, CCAA and WURA, any affected party may oppose or seek to lift the stay of proceedings. To do so, creditors must prove that they are likely to be materially prejudiced by the continuance of the stay, or it is equitable on other grounds that the stay be lifted. Unless there are compelling reasons to lift the stay, courts are normally reluctant to do so, especially at the outset of the proceeding, so that the debtor has time to attempt to restructure.
Receiverships can be commenced either under the BIA or under provincial legislation. As an equitable remedy, receiverships take on many forms but typically a receiver is appointed either privately pursuant to a security agreement or by way of court order, and is given certain powers to either operate a business or seize and liquidate assets or sell a business as a going concern, with a view to distributing the proceeds of sale to the creditors of the debtor. Receiverships are a very common remedy for dealing with insolvency in Canada and a useful tool for monetising the business or assets of an insolvent debtor.
iv Control of insolvency proceedings
The overall control of any court proceeding is in the hands of the court as directed and allowed by the relevant insolvency statute. Restructuring proceedings in Canada, save rare exceptions, are commenced and led by the debtor – similar to the debtor-in-possession (DIP) style of restructuring used in the US. The debtor (via management) remains in control of its assets and operations. In all cases, an insolvency professional (almost always a qualified bankruptcy trustee) will be appointed to act as proposal trustee in a BIA proceeding, as monitor in a CCAA proceeding, and in several possible capacities under the WURA. In each case, this professional acts as the eyes and ears of the court and seeks to ensure that the debtor is complying with the statute and court orders (and provides reports to the court and creditors).
v Special regimes
As previously noted, individuals and most business entities may file under the BIA and income trusts and most corporations may file under the CCAA. Banks, trust companies, insurance companies, loan companies, building societies, and certain trading companies may only commence proceedings under the WURA.
vi Cross-border issues
Plenary proceedings in Canada may only be commenced by debtors resident in, carrying on business in, or having assets in Canada. A debtor that has no presence in Canada may not commence a plenary proceeding. Where a debtor carries on business in more than one location, the courts will look at factors such as the location of main operations, the location of management, the location of the majority of creditors and convenience for the majority of stakeholders. Canadian courts have generally expressed a willingness to assist foreign courts where such assistance would not contravene public policy concerns in Canada. With the adoption of most of the UNCITRAL Model Law on Cross-Border Insolvencies in 2009, Canadian courts are now mandated to cooperate with foreign courts, subject to public policy concerns, once an ancillary proceeding is commenced. Pursuant to these regimes, proceedings ancillary to both foreign main and foreign non-main proceedings may be commenced in Canada. Neither the BIA nor the CCAA contain time frames or time restrictions for any such filings. Ancillary proceedings may be commenced by a foreign representative, which is a party appointed in the foreign proceeding. An automatic stay is granted if the proceeding is recognised as a foreign main proceeding, and a discretionary stay may be granted if the proceeding is recognised as a foreign non-main proceeding.
II INSOLVENCY METRICS
Despite having a growing and relatively stable economy, Canada faces challenges including one of the highest consumer debt-to-income ratios in the G20, changing demographic trends, and the potential impact of lower commodities prices, in particular, the significant drop in the price of oil. The Canadian consumer insolvency rate has trended higher over the past several decades, and appears high compared to some other developed countries. While the period of 2002–2007 saw a relatively stable consumer insolvency rate, the 2008 downturn pushed it higher in 2009. Since that time, the rate has trended back to pre-recession levels.5
The total number of insolvencies for the 12-month period ending 31 May 2017 decreased by 0.7 per cent compared with the 12-month period ending 31 May 2016.6 For the 12-month period ending 31 May 2017, individual insolvency filings accounted for 97.1 per cent of total insolvency filings.7
In contrast to individual insolvency trends, the business insolvency rate8 has fallen nearly 70 per cent since 2002.9 Unlike other periods of economic downturn, the 2008 recession did not result in an increase in business insolvencies.10 Business insolvencies for the 12-month period ending 31 May 2017 decreased by 8.2 per cent compared with the 12-month period ending 31 May 2016.11 The two sectors that experienced the largest decrease in the number of insolvencies were retail trade; and accommodation and food services.12 Transportation and warehousing; and mining and oil and gas extraction experienced the largest increase in insolvencies.13
The total number of domestic CCAA filings in the 12-month period ending in the first quarter of 2017 increased by 1.9 per cent compared with the 12-month period ending the first quarter of 2016.14 The mining and oil and gas extraction sector had the largest increase in the number of filed CCAA proceedings, which collectively increased by 53.3 per cent in the 12-month period ending in the first quarter of 2017 compared with the 12-month period ending in the first quarter of 2016.15
III PLENARY INSOLVENCY PROCEEDINGS
i US Steel Canada (Re)
In US Steel Canada (Re),16 the steel producer US Steel Canada was under CCAA protection. After a loss before the judge supervising the CCAA proceeding, the former unionised employees argued on appeal that the doctrine of equitable subordination should be applied to the C$2.2 billion in inter-company debt claims filed by the US parent. The Ontario Court of Appeal held that while the CCAA gives courts broad and flexible powers, they are not limitless and it does not give express or implied authority to apply the doctrine of equitable subordination. The decision emphasised that the purpose of the CCAA is to facilitate compromises and arrangements between debtors and creditors and that the CCAA did not provide an ‘at-large equitable jurisdiction to reorder priorities or to grant remedies as between creditors’.
Equitable subordination is a well-known American doctrine that permits a court to determine that a secured creditor is not entitled to the benefit of its normal priority position in an insolvency. Typically, the doctrine is applied in cases where a creditor exercises control over the debtor and there is evidence that transactions were not conducted at arm’s length. Some consider it to be a tool for a US bankruptcy court to ensure that a debtor’s assets are distributed fairly. Previously, the Supreme Court of Canada had declined to consider whether equitable subordination was available under Canadian law stating that it was a question ‘for another day’. However, the Supreme Court of Canada granted leave to appeal on 9 March 2017, from the Ontario Court of Appeal’s ruling that there was no jurisdiction to grant equitable subordination under the CCAA. In granting this leave application, the Supreme Court appears to agree that it is time for a conclusive answer to the question about the applicability of the equitable subordination remedy under Canadian law. The appeal hearing is scheduled for 9 November 2017, and will be watched closely by Canadian insolvency practitioners.
ii Pacific Exploration & Production Corp (Re)
Pacific Exploration & Production Corp (P&E) (now known as Frontera Energy) is a Canadian public company and a leading explorer and producer of crude oil and natural gas in Central and South America. In early 2016, P&E was heavily in debt because of an aggressive acquisition strategy, which had be exacerbated by the drop in oil prices. A Canadian investment firm tabled a restructuring blueprint, in which it would acquire the bulk of P&E’s US$5.4 billion of debt, and then convert it to equity holdings in the company. This restructuring would allow P&E to carry on as a going concern, while substantially reducing its debt burden and interest payments. The plan of compromise and arrangement received the approving votes of an overwhelming majority of P&E’s creditors, as well as the support of the monitor, which had been appointed under the CCAA. Because the plan had the support of creditors, and was compliant with the formal requirements of the CCAA, the only question to be decided by the Ontario court was whether it was ‘fair and reasonable’. The court approved the plan, finding it to be ‘a reasonable and fair balancing of the interests of all parties in light of the other commercial alternatives available’. In making this assessment, the court was guided by the objectives of the CCAA, which are ‘to enable compromises to be made for the common benefit of the creditors and of the company, particularly to keep a company in financial difficulties alive and out of the hands of liquidators’.
In approving the plan, the court also sanctioned releases in favour of third parties. Third party releases in the context of plans of arrangement will generally be approved where the releases are rationally tied to the resolution of the debtor’s claims and will benefit creditors generally, in light of the following factors:
- a if the parties to be released from claims are necessary to the restructuring plan;
- b the claims released are rationally connected to the purpose of the restructuring plan and necessary for it to succeed;
- c the restructuring plan would fail without the releases;
- d the third parties being released contributed in a tangible and realistic way to the restructuring plan;
- e the releases benefit the debtors as well as the creditors generally;
- f the creditors who voted on the restructuring plan had knowledge of the nature and effect of the releases; and
- g the releases are fair and reasonable and not overly broad.
The court was satisfied that these factors were present, and approved the plan in its entirety. The Canadian decision was significant because of the coordination that was required with other jurisdictions to implement the restructuring. To facilitate the restructuring, P&E also sought Chapter 15 bankruptcy protection in the US and an ancillary insolvency proceeding was launched in Colombia. Once the restructuring plan was approved by the Ontario court, it had to be recognised by both those foreign courts before it could be implemented.
iii Redwater Energy Corporation
In Redwater Energy Corporation (Re)17 an insolvent oil and gas company owned stakes in both producing wells and inactive wells licensed by the Alberta Energy Regulator (AER). Following the appointment of a receiver and bankruptcy trustee, applications were brought relating to the sale of producing wells and the disclaimer of inactive wells. The trustee and receiver sought to disclaim inactive wells so as to avoid liability for environmental remediation. At issue was whether the provincial regulatory regime operationally conflicted with the BIA or frustrated its purposes by imposing obligations on the receiver and trustee for environmental remediation and by making the transfer of licences for the producing well subject to conditions relating to the inactive wells. Relying on a trilogy of recent cases by the Supreme Court,18 the trustee and receiver argued that Alberta’s legislation effectively created a priority for environmental liabilities in bankruptcy and triggered the doctrine of federal paramountcy.
The Alberta Court of Queen’s Bench agreed with the trustee and receiver and found that certain provisions of the provincial legislation governing the actions of licensees of oil and gas assets did conflict with the BIA, which permits the trustee or receiver to disclaim assets, and, therefore, these provisions did not apply to a receiver and trustee because of the paramountcy doctrine. As a result, a trustee or receiver will be permitted to disclaim inactive wells without assuming any liabilities or environmental remediation obligations. In addition, the AER cannot impose conditions on the transfer of producing well licences relating to inactive wells.
The Alberta Court of Appeal upheld this decision, agreeing with the lower court that the regulator’s policy would in effect ‘create a super priority for environmental claims,’19 which could not be reconciled with the federal objectives of the BIA.
Leave to appeal to the Supreme Court of Canada has been sought by the AER, but it is unclear whether it will be granted. If it stands, this decision may have a significant impact on who bears the environmental remediation costs of abandoned wells and may result in higher costs on other oil and gas companies that pay a levy for ‘orphaned’ wells, which will likely increase in number as they are disclaimed through insolvency proceedings.
iv Nortel Networks
Nortel Networks was a global leader in the networking and communications industries, based in Canada and with operations on every continent. Nortel commenced formal insolvency proceedings in Canada, the US and the UK in 2009 as a result of deteriorating market conditions, weakening customer commitments and financial reporting difficulties. The initial intent of Nortel was to downsize and carry on those portions of its telecommunications business that it thought could be profitable. However, that plan quickly evaporated and Nortel decided to liquidate its assets.
In Re Nortel Networks Corporation,20 the Ontario Court of Appeal dismissed a motion for leave to appeal from the trial decision stemming from a joint hearing before the Ontario Superior Court of Justice and the United States Bankruptcy Court. Both the US and Canadian courts ruled in separate decisions rendered at the same time that the distribution of proceeds from the sale of business lines and intellectual property should be distributed equitably on a modified pro rata basis. This decision is now under appeal in the US. However, in Canada, leave is required to appeal under the CCAA and Ontario’s Court of Appeal found no reason to interfere with the pro rata allocation method and determined that this allocation did not constitute a ‘substantive consolidation’.21 Ultimately, the court was not convinced that the trial court had made any errors or that the appeal involved issues of broad importance.
IV ANCILLARY INSOLVENCY PROCEEDINGS
i Payless Holdings Inc LLC
In Payless Holdings Inc LLC (Re),22 Payless Canada’s US parent corporation was in the process of reorganising under Chapter 11 of the US Bankruptcy Code, and sought to have its initial order recognised and enforced in Canada. The Ontario court recognised the foreign main proceeding, but held back on the accompanying order for interim relief. Under the US parent’s plan, Payless Canada would be brought in as a guarantor, and its assets employed as collateral for the indebtedness of the US parent company. Although Payless Canada was not itself insolvent, this arrangement would jeopardise its ability to pay its own obligations, including trade creditors, employees and landlords. While the plan contained protections for trade creditors and employees, there was no provision for the landlords, who argued in court that granting the application would be unfair. The court agreed: ‘By providing the guarantee and the security, combined with the absence of a charge or other mechanism to protect the position of the landlords, the position of the landlords could be detrimentally affected.’23 An interim relief arrangement, like the one proposed would only be acceptable in a CCAA proceeding if arrangements were made to ensure that all affected creditor groups of the Payless Canada were protected to the extent that they could be no worse off if the foreign bankruptcy order were recognised. Although the reorganisation proposal contemplated the continued operation of all Payless stores in Canada, there was no assurance that it would be successful. All things considered, the court found that it should not be the landlords who are put at risk in this situation.
ii Brookstone Co
In Brookstone Co (Re),24 Brookstone was a speciality retailer carrying on business through retail stores in the US, and serving Canadian customers by way of online, telephone, and mail orders. An action had been commenced in Ontario against Brookstone by an individual plaintiff who claimed that she had suffered injuries as a result of a product purchased from Brookstone. While the action was ongoing, Brookstone commenced reorganisation proceedings under Chapter 11. The US court issued an order establishing a claims process and bar date for the determination of pre-filing claims. More than two years after Brookstone’s plan of reorganisation was approved in the US, Brookstone brought an application to have it recognised and enforced in Ontario, which would have barred all ‘claims’ as defined in the plan of reorganisation, including the individual plaintiff’s Ontario action.
Brookstone framed its application as a question of whether or not the court should recognise the US orders as a matter of comity. In rejecting the application, the court held that the real issue was whether CCAA could be applied in the circumstances or whether Brookstone should be required to seek enforcement of the US orders by way of an application or motion in the plaintiff’s existing Ontario action. The court held that it would not be fair in the particular circumstances to the plaintiff or to other potential claimants to grant the general enforcement of the US orders. Rather, the decision should only be made when ‘the court will be able to assess the equities and any other considerations in favour of any of the parties against whom enforcement of the order is sought on a party-by-party basis’.
The court denied the application on the basis that it would be unfair to the individual plaintiff and other potential claimants to apply the CCAA in these circumstances, but also held that Brookstone could seek to have the US orders recognised in the plaintiff’s action. Brookstone could have sought recognition of the US restructuring orders concurrently with the US restructuring and the decision to wait more than two years was undoubtedly a significant factor for the judge in this case.
i Commercial insolvencies
Generally speaking, commercial insolvencies in Canada have been stable, increasing only slightly year on year. The economy as a whole remains strong and the manufacturing sector has rebounded in central Canada after years of decline. Two sectors that have been worst hit in the last year are the resource sector and the transportation and warehousing sectors.
Resource sector insolvencies have risen dramatically over the past three years, with the decline in commodity prices, in particular the steep decline in the price of oil. This has had a significant impact on the Canadian economy as a whole, and in particular in the provinces of Alberta and British Columbia in western Canada. Businesses associated with the resources sector, in areas of transportation and warehousing have seen a corresponding negative effect. Although the retail and accommodations sectors have recovered somewhat in the past year, they remain vulnerable in those specific regions of western Canada.
Retailers continue to reduce physical locations and consolidate operations in an attempt to cut costs and facilitate customer demand for more and better online services. The garment industry has been particularly affected, and a number of clothiers have recently either downsized and restructured their operations or have gone into bankruptcy liquidation. The changing retail market has also lead to the dramatic insolvencies of two well-known department stores: Target Canada in 2015 and Sears Canada in 2017. The sheer size of these operations, which employed numerous low and middle-income workers, held significant contracts with manufacturers and possessed large leases in high-value locations, has ignited high-visibility conflicts among creditors and challenges for all parties involved.
ii Personal bankruptcies
Although the Bank of Canada has repeatedly expressed concern over household indebtedness and the ability of Canadians to withstand a significant increase in interest rates, personal bankruptcies have remained stable as the economy remains strong and the unemployment rate is at a decade-low. The only outlier is western Canada where the decline in the oil and gas sector has driven up unemployment rates and individual bankruptcy rates. It is expected that unemployment rates in this region will rise before stabilising.
1 Michael Nowina is a partner and Sarah Faber is a summer law student at Baker & McKenzie LLP (Canada).
2 RSC 1985, c B-3.
3 RSC 1985, c C-36.
4 RSC 1985, c W-11.
5 ‘Fresh Start: A Review of Canada’s Insolvency Laws’, Industry Canada (2014), p. 7, available at: www.ic.gc.ca/eic/site/cilp-pdci.nsf/vwapj/review_canada_insolvency_laws-eng.pdf/$file/review_canada_insolvency_laws-eng.pdf.
8 The number of business insolvencies per 1,000 businesses operating in Canada.
9 See footnote 5.
11 See footnote 6.
16 2016 ONCA 662.
17 2016 ABQB 278.
18 407 ETR Concession Co v. Canada (Superintendent of Bankruptcy), 2015 SCC 52; Alberta (Attorney General) v. Moloney, 2015 SCC 51; and Saskatchewan (Attorney General) v. Lemare Lake Logging Ltd, 2015 SCC 53.
19 2017 ABCA 124, at paragraph 81.
20 2015 ONSC 2987.
21 2016 ONCA 332.
22 2017 ONSC 2321.
23 Ibid., at paragraph 41.
24 2016 ONSC 6762.