Commercial insolvencies are expected to steadily increase in the near-term due to higher interest rates, supply chain disruption and corresponding increased commodity costs. A rise in commercial insolvencies will increase the likelihood that businesses will be impacted by a formal insolvency proceeding, whether as a creditor, supplier, customer or other stakeholder. It is, therefore, important for businesses to understand how to strategize in the context of both newly initiated and ongoing insolvency proceedings.
This bulletin addresses six important issues to be aware of if restructuring proceedings impact your business under the Companies’ Creditors Arrangement Act (Canada) (CCAA). The CCAA is Canada’s principal statute for the restructuring of large insolvent debtors and the functional equivalent to Chapter 11 of the United States Bankruptcy Code. The CCAA allows a debtor company to formulate a restructuring plan that may include a court-approved sale of its business and assets and/or submission of a plan of arrangement to its creditors and the court for approval. Other insolvency proceedings, such as receiverships, bankruptcy proceedings, or bankruptcy proposals also regularly occur and will present their own unique considerations.
Issues in Restructuring Proceedings
Stay of proceedings. Proceedings under the CCAA provide for a stay of proceedings in respect of claims against the debtor company held by both unsecured and secured creditors. The purpose of the stay of proceedings is to allow the debtor company to maintain the status quo with an aim to restructure its operations without the threat of creditor action. The stay of proceedings also prevents more active creditors from gaining an unfair advantage over other creditors. Under the CCAA, a stay of proceedings is typically granted by the court upon application by the debtor company for an initial 10-day period and extended by subsequent orders of the court. If a contractual counterparty is impacted by a CCAA filing, such counterparty may be prohibited from taking any steps to collect debt or enforce rights against the insolvent debtor. Provisions in contracts allowing for the termination of the contract upon the counterparty becoming subject to insolvency proceedings are generally unenforceable in the face of a stay of proceedings, without first seeking leave of the court.
Proving your claim. In CCAA proceedings, creditors are often required to submit proofs of claim for review by the CCAA monitor or the debtor company in coordination with the monitor. The CCAA monitor is a court-appointed officer, tasked with overseeing the restructuring proceeding and with reviewing and reporting on the business and financial affairs of the debtor to creditors and the court. If no restructuring plan is contemplated and the secured creditor is “under water,” such that it will not be repaid in full following any sale of the debtor’s assets, there may not be a formal claims process as there is no value for unsecured creditors.
As part of proving your claim, creditors are typically required to describe their claim in detail and provide supporting evidence of such claim. The court will typically establish a claims bar date. After such date, creditors are barred from submitting claims and such claims may be permanently extinguished. Generally, submission of a proof of claim is a necessary prerequisite for an unsecured creditor to receive a distribution and vote in any meeting of creditors on a plan submitted by the debtor company.
In order to prove a claim, your business should (1) make careful note of the deadline for submission, and ensure that your business’ proof of claim is submitted prior to this deadline, (2) submit all relevant invoices, agreements and remaining supporting documents to the monitor for its review, and (3) consult the monitor with any questions you have in connection with submitting your business’ proof of claim.
Payment for post-filing supply. As noted above, the stay of proceedings restrains parties to any supply agreement with the debtor from terminating the supply of such goods or services. Suppliers are, however, protected by provisions of the CCAA that provide that no party is required to continue to supply goods or services on credit. As such, while a supplier cannot terminate its agreement, the supplier is not required to extend trade credit unless it has reached acceptable payment arrangements with the debtor. The exception to this rule is where a court declares a supplier to be a “critical supplier.” Critical suppliers are required to extend trade credit in exchange for a court-ordered charge securing payment. In certain circumstances a debtor may be authorized to pay a critical supplier’s pre-filing trade claims, including where the supplier is overseas or there is no pre-existing supply contract.
Preferences and transfers at undervalue. Certain types of pre-filing transactions may be challenged by the monitor. A payment may be considered “preferential” where it is made by an insolvent debtor to a pre-filing creditor with the intention of giving such pre-filing creditor a preference over another creditor within the relevant “look-back” period. This period is three months before the filing date where the relationship is at arms’ length, or within one year where the relationship is not.
A transfer of assets or cash between arms’ length parties within one year prior to the insolvency, or within five years if the relevant parties are not dealing at arms’ length, may result in the transaction being considered a “transfer at undervalue.” In the case of arms’ length transactions, the debtor must have been insolvent at the time of the transfer or rendered insolvent by such transfer, and the transfer must have been made with the intention of defrauding, defeating or delaying a creditor. In the case of non-arms’ length transactions, the legislative provisions are much stricter. Any transfer for conspicuously less than fair market value within one year prior to the insolvency between non-arms’ length parties will be considered a “transfer at undervalue” without any necessity to prove intent or insolvency.
In the case of both preferences and transfers at undervalue, the CCAA court will have the ability to declare the transaction void or grant related remedies. Preferences and transfers at undervalue can implicate businesses that made transactions with a debtor within the applicable look-back periods, even where the recipient had good intentions. However, transactions that take place in the ordinary course of business, such as payments on invoices for services provided within the prescribed trade terms, will not typically be challenged. If, for example, payment of a long outstanding debt was made immediately prior to a CCAA filing, such a payment would likely be subject to scrutiny by a monitor.
Your business should immediately consult insolvency counsel if you believe a preference or transfer at undervalue was made between your business and a financially struggling business to determine next steps.
Asset sales. CCAA proceedings regularly involve a court-approved sale and investment solicitation process (SISP) which may result in the sale of some or all of the debtor’s assets to repay debts owed to its creditors. A SISP provides a good opportunity for solvent businesses in the same industry as the insolvent business to purchase useful assets. The business purchasing the assets of the debtor typically acquires such assets pursuant to an approval and vesting order free and clear of all liens and encumbrances.
A SISP may also involve assignment of a debtor’s rights and obligations under pre-filing contracts or leases. The CCAA permits a debtor to make an application for an order assigning its rights and obligations under pre-filing agreements to a purchaser or other party where certain conditions are fulfilled, notwithstanding non-assignment provisions in the relevant agreement.
The CCAA also permits a debtor to disclaim (i.e., repudiate) pre-filing agreements with approval from the monitor or the court, subject to certain exceptions and fulfilment of notice requirements.
Plans of arrangement or compromise. A plan of arrangement or compromise (Plan) is a proposal made by a debtor to its creditors designed to allow a debtor to compromise its obligations and continue to carry on business, while offering creditors greater value than they would receive in a liquidation. Plans can provide for, among other things: (i) payment of a percentage of the face value of a claim, (ii) conversion of debt into equity, (iii) creation of pools of funds for distribution to creditors, (iv) a payment scheme whereby some or all creditors will be paid over an extended period of time, or (v) a combination of the foregoing.
Once proposed, creditors are divided into classes based on commonality of interest and vote to accept or reject the Plan. The Plan must be passed by a special resolution supported by a double majority in each class of creditors: a simple majority of creditors voting in the class, and 66 and 2/3% of the total value of claims voting in the class.
Your business should carefully review any Plan under which it is a creditor or which it believes may affect its rights, and consult insolvency counsel to better understand its rights, the CCAA process and the Plan’s impact on your business.
Being aware of the above six issues will prepare your business for the potential situation of navigating a third-party insolvency process. For more information, please contact:
or any member of the Restructuring & Insolvency
Blakes and Blakes Business Class communications are intended for informational purposes only and do not constitute legal advice or an opinion on any issue. We would be pleased to provide additional details or advice about specific situations if desired.
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