Bankruptcy – it’s not the end! (a reprise)

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Bankruptcy frequently interacts with other areas of law.  One area of interface is the world of foreclosure.  We originally published this post in our other blog http://www.albertaforeclosure.ca, but it is an interesting case and so we decided to reprint it here:

Under the Law of Property Act,[1] a mortgagee is limited to recovery of the property unless the mortgage is high ratio, insured by CMHC, or granted by a corporation.  If one of these latter circumstances exist, then the mortgagee is entitled to both recovery of the property and a judgment against the mortgagor for the deficiency in the event that the amount owed under the mortgage exceeds the value of the property.  The mortgagee can then take steps to collect on the deficiency judgment in order to make itself whole.

Unfortunately for mortgagees, the deficiency judgment is an unsecured debt, and if the mortgagor makes an assignment into bankruptcy, the mortgagee ends up lumped in with all of the other unsecured creditors ranking at the bottom of the distribution list of the bankrupt mortgagor’s estate.  If bankruptcy occurs, should the mortgagee give up?  Is bankruptcy the end of the mortgagee’s rights to collect?  As with most things, timing (in this case, the timing of the bankruptcy) is everything.

In CIBC Mortgage Corp. v. Stenerson,[2] the Donalds granted a mortgage to CIBC which was insured by CMHC.  Subsequently, the Donalds transferred the property to the Stenersons and by operation of the Land Titles Act, the Stenersons became liable for payment of the mortgage.  In March 1996, Cherie Stenerson assigned herself into bankruptcy.  For seven months after the assignment, she continued to make the mortgage payments.  In November 1996, the mortgage went into default, and in December 1996, Ms. Stenerson was discharged from bankruptcy.  Foreclosure proceedings were started by CIBC in February 1997.  Because the amount owed under the mortgage exceeded the value of the property, CIBC was granted a deficiency judgment against Mr. Stenerson.  The issue before the Court was whether CIBC was also entitled to a deficiency judgment against Ms. Stenerson given her bankruptcy.

The Court held that yes, CIBC was entitled to its deficiency judgment because Ms. Stenerson had affirmed the contractual relationship with CIBC by making the required mortgage payments during the bankruptcy.

The mortgagee’s right to a deficiency judgment is therefore dependent upon the timing of the date of bankruptcy and the date that payments are made.  If the default under the mortgage occurs before the date of bankruptcy and no further payments are made under the mortgage, then the mortgagee will be limited to recovery of the property and a declaration of the deficiency.  The mortgagee will then be able to register a proof of claim in the bankruptcy for the amount of the deficiency, but will rank alongside the other unsecured creditors.  However, if even one payment is made under the mortgage after the date of bankruptcy, the mortgage is affirmed and the mortgagee will be entitled to claim for both the property and any deficiency judgment against the bankrupt mortgagor.  Bankruptcy is not always the end to the rights of creditors!

Ksena J. Court and Francis N.J. Taman practice commercial and residential foreclosure, and secured and unsecured debt collection at Bishop & McKenzie LLP in Calgary, Alberta.  Originally published in http://www.albertaforeclosure.ca – used with permission.


A Road Less Travelled?

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Francis N.J. Taman and Ksena J. Court

One of the more interesting trends in insolvency is the use of the arrangement provisions of the various Business Corporation Acts in Canada to reorganize the affairs of companies which, while not yet insolvent, are facing liquidity issues and are implementing innovative, pro-active solutions to avoid having to seek creditor protection. One recent case[1] demonstrates the power of such an approach.  While it is currently being reported as a corporate case involving an attempt to amalgamate two companies while avoiding the exercise of dissent rights by a minority shareholder, the motivation of one of the two companies involved in the arrangement was to increase its liquidity in order to more fully exploit its assets.  Since liquidity issues are sometimes a precursor to insolvency, the case caught our eye.[2]  The case highlights the advantages of a more proactive and imaginative approach to dealing with cash flow and liquidity issues.  It also brings into focus some of the strengths of the Alberta Business Corporations Act[3] as a mechanism for undertaking an arrangement.

It appears that Marquee Energy Ltd. (“Marquee”) had conventional oil and gas assets but lacked the liquidity to properly develop and exploit those assets.  Alberta Oil Sands Inc. (“AOS”) was in exactly the opposite situation.  AOS’ main assets and the focus of its business had been a number oil sands leases in the Fort McMurray area.[4]  Those leases were cancelled by the Alberta government and AOS received a $35 million compensation payment in 2015.

This appeared to be a match made in heaven.  Marquee and AOS developed a business plan under which the AOS cash would be used to develop the Marquee assets.  As part of this business plan, Marquee and AOS would amalgamate, creating a single company with both the assets and the liquidity to exploit those assets.

Unfortunately, much as in Romeo and Juliet, not everyone was as supportive of this relationship as the two companies would have hoped.  Smoothwater Capital Corporation (“Smoothwater Capital”) owned about 15% of AOS’ capital stock.  They opposed the amalgamation of the two companies.[5]

This created something of a challenge to AOS.  Section 183 of the Alberta BCA requires an amalgamation agreement between arms length parties be approved by special resolution[6] of the shareholders of both corporations. Even if that special resolution passed, any shareholders who voted against the resolution could exercise what are referred to as dissent rights[7] and force AOS to buy out their shares at their fair market value.  The specter was that if a sizeable number of shareholders dissented, AOS’ cash would be seriously depleted, undermining the object of the amalgamation.

The shareholders of Marquee, on the other hand, were not surprisingly supportive of the amalgamation.[8]  Marquee and AOS came up with an alternate strategy for achieving their business aims.  The transaction would proceed as an arrangement of Marquee under the Alberta BCA.  The arrangement transaction was conceived as follows:

  1. The shares of Marquee would be exchanged for 1.67 shares of AOS. The net effect of this would be to make Marquee a wholly owned subsidiary of AOS.  This would be the arrangement under the Alberta BCA.
  2. AOS would issue 206 million shares as part of this share for share exchange. This would lead to a dilution of the existing AOS shareholdings by about 49%.
  3. AOS would “vertically amalgamate” with its subsidiary Marquee under s. 184 of the Alberta BCA.

None of those transactions, including the vertical amalgamation, would require the approval of the shareholders of AOS.  Equally important, none of the transactions would provide the shareholders of AOS with dissent rights.  Moreover, only Marquee would be arranged under the Alberta BCA, so there would be no vote by the shareholders of AOS with respect to the arrangement.  Two-thirds of the shareholders of Marquee would have to vote in favour of the arrangement and the Court would have to approve it thereafter.

From a Court perspective, these sorts of arrangements are normally done in two steps.  The first step is to get an Order from Court approving the holding of a shareholders meeting to approve the arrangement.[9]  This Order was obtained by Marquee without notice to any other party, including Smoothwater.  Marquee disclosed to the Court that Smoothwater was a shareholder of AOS and would likely try to object to the arrangement.  An Order (the “Initial Order”) was granted approving the shareholder meeting.

Smoothwater, when it became aware of the Order, brought an application to vary the Initial Order to require that the shareholders of AOS be permitted to vote (and potentially dissent) with respect to the transaction in the same way that the Marquee shareholders would.  At the application, Smoothwater indicated that they did not oppose the underlying business plan other than for the fact they preferred to have AOS liquidated.  If an AOS shareholders vote was allowed and was successful, they intended to dissent and be bought out.

There is no specific test set out in the legislation with respect to the approval of an arrangement under the Alberta BCA.  However, the process is parallel to that in the Canada Business Corporations Act.[10]  The Supreme Court of Canada developed a test with respect to approving arrangements under the Canada BCA.[11]  The test parallels the test under the Companies’ Creditors Arrangement Act [12]:

  1. Statutory procedures must be met;
  2. The application is put forward in good faith; and
  3. The arrangement is fair and reasonable in that:
    1. The arrangement has a valid business purpose; and
    2. The objections of those whose rights are being arranged are resolved in a fair and balanced way.

The Supreme Court highlighted that it was the legal rights and interests of those who were objecting which had to be considered in determining whether the arrangement was fair and reasonable.

The Justice hearing the application held that the essence of the proposed transaction was an amalgamation between Marquee and AOS which was a valid business purpose.  The primary reason for using the arrangement was to avoid the vote and possible dissent rights of the shareholders of AOS.  While the underlying business purpose was put forth in good faith, the method was not.  In light of the significant dilution of shares, the legal rights of AOS’ shareholders were being affected.  As proposed, the arrangement was not fair and reasonable but could be made so by allowing AOS’ shareholders voting and dissent rights equivalent to those that Marquee’s shareholders would have.

The Court of Appeal overturned the decision of the Court of Queen’s Bench.  The Court began by noting that the transaction in question was an arrangement.  It held that the Alberta BCA did not contemplate or require Court approval of the arrangement from the perspective of any person other than the stakeholders of Marquee. Therefore, the question of reasonableness and fairness is to be determined from the perspective of the arranged corporation, being Marquee.  “Fairness to Marquee stakeholders does not depend upon fairness for Alberta Oilsands stakeholders.”[13]

From Marquee’s perspective, the arrangement was a takeover by AOS.  No vote from AOS shareholders was required for that.  It was not appropriate to recharacterize the transaction from an AOS perspective and then use that characterization to vary Marquee’s arrangement.  It is the arrangement itself that must be approved by the Court, not subsequent steps used to implement the business plan.

The directors of AOS, the Court noted, were entitled to execute fundamental changes of AOS in accordance with the Alberta BCA.  AOS is only required to have a shareholders’ vote on a fundamental change where the Alberta BCA indicates that one is required.  Additionally, the Court noted both the Supreme Court of Canada and the Ontario Superior Court of Justice had both held in separate cases that there was nothing improper with a company structuring a transaction to avoid a shareholder vote.[14]

This decision shows that there are some significant advantages to be gained by using the Alberta BCA to restructure a corporation.  There appears to be significant flexibility to structure the transaction to control the uncertainty that always lurks behind any vote by shareholders and creditors.  It also highlights the advantages to corporations dealing with liquidity issues proactively, while they still have the time and the cash to be able to maneauver.  Unfortunately, many businesses seem driven by a desire to avoid admitting their problems or at least to avoid involving restructuring professionals in dealing with potential issues.  In most cases, by trying to avoid the unpleasantness, they limit themselves and the results can often be a tragedy.

Francis N.J. Taman and Ksena J. Court practice secured and unsecured realization and insolvency at Bishop & McKenzie LLP in Calgary, Alberta.

[1] Smoothwater Capital Corporation v. Marquee Energy Ltd., 2016 ABCA 360 (“Smoothwater”).

[2] To be clear, in Smoothwater, there is no suggestion that Marquee Energy Ltd. was insolvent or heading towards insolvency.  Based upon the reasons, they had business assets but lacked sufficient liquidity to exploit them to the extent they desired.  However, in light of the fact that for other businesses, liquidity issues can be a precursor to insolvency, we thought that this particular case bears some consideration by those who are acting before circumstances force them to seek creditor protection.

[3] RSA, c. B-9 (the “Alberta BCA”).  It should be noted that it is also possible to pursue an arrangement under s. 170 of the Companies Act, RSA 2000, c. C-21.

[4] Re: Marquee Energy Ltd., 2016 ABQB 563 (the “QB Decision”) at para 3.

[5] It appears that they were not the only AOS shareholders in opposition to the amalgamation.  The QB Decision at para 4.

[6] A resolution passed by not less than 2/3 of the votes cast by the shareholders who vote with respect to that resolution.  Alberta BCA, s. 1(ii).

[7] Alberta BCA, s. 191.

[8] We acknowledge this is a departure from the fact pattern in Romeo and Juliet where neither family supported the match.

[9] The second step is approval of the arrangement by the Court.  It should be noted that while the Smoothwater application was not the application to approve the arrangement, the Court of Queen’s Bench examined that test in order to determine whether to vary the Initial Order.

[10]RSC 1985, c. C-44 (the “Canada BCA”), s. 192

[11] BCE Inc. v. 1976 Debentureholders, 2008 SCC 69 at para 156.

[12] RSC 1985, c. C-36.

[13] Smoothwater, at para 23.

[14] Ibid at para 45 & 46 citing BCE Inc. v 1976 Debentureholders, 2008 SCC 69 and McEwan v. Goldcorp Inc. (2006), 21 BLR (4th) 262

Help, Help, I’m Being Oppressed!

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Francis N.J. Taman and Ksena J. Court

It is one of the hallmarks of the Companies’ Creditors Arrangement Act[1] process that a stay of proceedings is granted to provide breathing space for a company to reorganize itself without one creditor having an advantage over the company or another creditor.[2]  So it was interesting to come across a recent CCAA case where two creditors sought an order permitting an oppression lawsuit filed prior to an Initial Order being granted to be permitted to go to trial notwithstanding the fact that the defendant was protected by a stay of proceedings.

In Re: Lightstream Resources Ltd. [3], two investment companies (the “Plaintiff Noteholders”) held close to $64 Million[4] in unsecured notes issued by Lightstream Resources Ltd. (“Lightstream”).  Lightstream had approximately $800 Million in unsecured notes outstanding in July 2015, when the actions which were the subject of the oppression action happened.[5]  The Plaintiff Noteholders had both been concerned about the possibility of Lightstream converting some of the unsecured notes into secured debt which would rank ahead of the unsecured notes (a “Debt Exchange Transaction”).  Both the Plaintiff Noteholders and Lightstream were aware that there was nothing to prevent Lightstream from doing so.  The Plaintiff Noteholders received assurances that Lightstream had sufficient liquidity and did not intend to carry out a Debt Exchange Transaction.  Lightstream indicated that if a Debt Exchange Transaction were ever undertaken, all unsecured noteholders would be permitted to participate.

In March, 2015, Lightstream was approached by two companies which held $465 Million in unsecured notes (the “Exchange Noteholders”) regarding potentially undertaking a Debt Exchange Transaction (the “Proposed Exchange Transaction”).  Lightstream retained a financial advisor to help them evaluate the Proposed Exchange Transaction.  In May, 2015, the Exchange Noteholders provided a proposal for the Proposed Exchange Transaction.  The Exchange Noteholders stated that they were not willing to be involved in the Proposed Exchange Transaction if any other unsecured noteholders were permitted to participate.[6]  Lightstream felt that any Debt Exchange Transaction that didn’t involve the Exchange Noteholders wouldn’t have any material upside for Lightstream.  The financial advisor indicated that Lightstream would need to seek some additional liquidity in 2016 as it would have liquidity issues in 2017.  The Proposed Exchange Transaction was seen as something to be weighed against having the flexibility to obtain secured financing elsewhere.

A statement was made at Lightstream’s Annual General Meeting that while Lightstream could add secured debt, it did not need to do so in order to add liquidity.[7]  Lightstream also continued to provide assurances to the Plaintiff Noteholders that they did not intend to carry out any Debt Exchange Transaction and if one was ever undertaken, all unsecured noteholders would be permitted to participate.

The Plaintiff Noteholders continued to be concerned about a possible Debt Exchange Transaction but in the circumstances did not sell off their positions. In June, 2015, Lightstream agreed to the Proposed Exchange Transaction.  The Proposed Exchange Transaction was carried out in July, 2015.  At the end of July, 2015, the Plaintiff Noteholders filed an oppression action against Lightstream (the “Oppression Action”).  One of the remedies sought was an order that would force Lightstream to carry out a Debt Exchange Transaction with the Plaintiff Noteholders on the same terms as the Proposed Exchange Transaction.

On September 26, 2016, an Initial Order under the CCAA was granted in favour of Lightstream.  By that time, the Oppression Action was at the point it was ready to be set down for trial.  The Plaintiff Noteholders sought an order under the CCAA that would exclude their claims from the CCAA process and to have the Oppression Action heard at trial before the CCAA proceeded.

The Court held that it did have the power under Section 11 of CCAA to grant such an order in the abstract.[8]  Section 11 permits the Court to issue any order it considers appropriate in the circumstances.  However, in considering what is appropriate, the Court must consider whether the order being sought actually advances the policy objectives underlying the CCAA.  The Court has no “at-large equitable jurisdiction to reorder priorities or to grant remedies as between creditors.  The orders reflected in the case law have addressed the business at hand: the compromise or arrangement”.[9]

The Court determined that in deciding the application, it would apply the same test as the Court would apply in summary judgment – is there a genuine issue to be tried or are the Plaintiff Noteholders bound to fail?  If the Plaintiff Noteholders were bound to fail, it would not be necessary to determine whether the granting of the requested relief was appropriate in the circumstances.  After undertaking a thorough analysis of the oppression claims, the Court determined that there was, in fact, a genuine issue for trial.[10]

However, the Court also felt that the remedy being sought – to impose a Debt Exchange Transaction on the same terms as the Proposed Exchanged Transaction – was inappropriate.  Damages would be an appropriate remedy if the Plaintiff Noteholders were successful.  “Investments have no intrinsic value beyond their financial return.”[11]  Moreover, if the Proposed Exchange Transaction was oppressive to the Plaintiff Noteholders, it would also be oppressive to the other unsecured noteholders who had also not participated.  The remedy sought amounted to oppression against those other noteholders as well as a potential breach of the terms of the unsecured notes.  It would also harm the Exchange Noteholders who would not have entered into the Proposed Exchange Transaction if the Plaintiff Noteholders were also permitted to participate.

Finally, to grant the proposed remedy would be contrary to the purpose of the CCAA.  There was no evidence that the Proposed Exchange Transaction was any sort of maneuvering by the Exchange Noteholders for advantage in the CCAA proceedings prior to the Initial Order being granted.  The effect of the proposed remedy would be to adversely affect other creditors.  The Plaintiff Noteholders would be put in a better position than the remaining unsecured noteholders.  This is inconsistent with the idea of maintaining a status quo between creditors while the compromise is negotiated.  As such, the application was denied and they remained unsecured creditors in the CCAA proceedings.

The takeaway for creditors is two-fold.  First, in the appropriate circumstances, it may be possible to use equitable remedies such as the one proposed in the Oppression Action as part of a CCAA order.  The second is that there will have to be some reason why damages would not be an appropriate remedy and, preferably, the impact on other creditors will have to be justifiable if not nominal.  However, it does highlight the scope for creativity that still remains under the CCAA for the imaginative practitioner.

Francis N.J. Taman and Ksena J. Court practice secured and unsecured realization and insolvency at Bishop & McKenzie LLP in Calgary, Alberta.

[1] R.S.C. 1985, c. C-36 (“CCAA”).

[2] Re: Woodward’s Ltd. [1993] BCWLD 769 (BCSC).

[3] 2016 ABQB 665.

[4] After the oppression action began, one of the Plaintiff Noteholders purchased an addition $36 Million in unsecured notes in Lightstream.

[5] Originally Lightstream had issued $900 Million in unsecured notes but had repurchased $100 Million in 2014.

[6] Other than in what was described as “certain follow-on exchanges”.  Re: Lightstream Resources at para. 22.

[7] These comments at the AGM came prior to the financial advisor’s advice regarding the need for increased liquidity in 2016.

[8] Section 42 of CCAA permits the provisions of the CCAA to be applied together with the provisions of any other Federal or Provincial Act that authorizes or makes provision for the sanction of compromises and arrangements between a company and its shareholders.

[9] Ibid. at para. 50, quoting Re: US Steel Canada Inc, 2016 ONCA 662 at para 82.

[10] Ibid. at para 73.

[11] Ibid. at para 86.