Mathieu: Hi, I’m Mathieu Rompré.
Peggy: And I’m Peggy Moss, and this is the Blakes Continuity podcast. Today, we continue our exploration of legal options for companies in distress.
Mathieu: With a closer look at insolvency.
Peggy: And debt.
Mathieu: And lenders.
Peggy: And how bankruptcy proceedings differ in the U.S. and Canada.
Mathieu: Because the Continuity podcast knows no boundaries.
Peggy: Right! Let’s call in the experts!
Mathieu: Good idea! We are joined today by partners Linc Rogers, Kelly Bourassa and Sébastien Guy.
Peggy: Linc, as the global pandemic and related economic turmoil unfold, we’re hearing a lot about restructuring proceedings in both the U.S. and Canada. I know your practice has a significant cross-border component. How do you describe for your U.S. clients the difference between the Canadian restructuring regime and the U.S. one, and let them know what to expect?
Linc: The one thing I’ve come to realize over my years of practise is that the two regimes, Canada and the U.S., they’re a lot more alike than they are dissimilar. In the U.S., you have Chapter 11 and in Canada, we have the Companies’ Creditors Arrangement Act, which I will be affectionately referring to as the CCAA. Both regimes provide for the reorganization of a debtor company or the sale of distressed assets. In fact, it’s not uncommon for say a single purchase agreement or a single financing agreement, or even a single plan of arrangement or plan of reorganisation to be approved by both courts in either country.
Peggy: Are there differences in how debtor companies commence proceedings under the CCAA?
Linc: The key distinction, Peggy, is really the instrument that’s used to get that initial stay of proceedings right out of the gate. So, in the U.S., there’s an electronic petition that’s filed before the appropriate bankruptcy court that triggers that initial stay. This happens before you’ve even seen a judge. Then what happens is the U.S. bankruptcy attorneys will get into court a couple of days later for what they call the first day hearings. At that first day hearing, they will ask for the initial relief that they need so they can get the case started. In Canada, you don’t get the case started unless and until you are before a judge, or what we call an initial hearing, and ask the judge to issue what we call our initial order. Now, the initial stay of proceedings in a CCAA case is only going to be for 10 days. The idea is to let the debtor catch his breath and, most importantly, give notice to all its key stakeholders, come back to court within that 10-day timeframe and then ask for additional relief that you might need. That could include asking for approval of financing, asking for approval of a sales process, maybe even approval of key employee retention plans as well. But the idea again is get that 10 days, give notice to everybody and then let’s get back to court and proceed from there.
Mathieu: Kelly Bourassa, we are turning over to you now. I understand there are also differences in terms of oversight for the insolvency process. In the U.S., there is a U.S. trustee and the concept of an unsecured creditors’ committee. Is there a similar oversight for Canadian proceedings?
Kelly: Mathieu, to begin with, in the same way as under Chapter 11 proceedings, in Canada, it’s the debtor’s existing management that typically remains in control of the business and restructuring efforts during the insolvency proceedings. As you mentioned in Chapter 11, we often see involvement of the U.S. trustee, which is a division of the Department of Justice, and also an unsecured creditors’ committee. There’s no direct equivalent in Canada to the U.S. trustee. We have the Office of the Superintendent of Bankruptcy, but its mandate is not the same. There’s no specific provision in the CCAA for an unsecured creditors’ committee, though we have seen, in many cases, ad hoc committees for certain stakeholder groups provided for by the courts in certain circumstances. In Canada, the main oversight comes from the court appointed monitor, who is sometimes referred to as the eyes and ears of the court. The monitor has the role of overseeing or monitoring the debtor’s operations and activities for the benefit of all stakeholders. The monitor’s duties are set out in a court order that appoints the monitor and also in the CCAA. One of the duties, which is imposed by the CCAA, is the duty to act honestly and in good faith. Recently, the CCAA was amended to expand this duty so that not only the debtor and the monitor have an obligation to act in good faith, but also any interested person who is participating in any CCAA proceedings has an obligation to act in good faith.
Peggy: Sébastien, in the U.S. we sometimes hear about creditors being “crammed down.” What does that mean and is it something that happens in Canadian proceedings?
Sébastien: First, both in the U.S. and Canada we have the same voting thresholds. So, Peggy, for a plan to be approved it needs to meet a double majority test for each class of creditors. So at least two-thirds in value of voting claims and a majority in number of voting creditors. In the U.S., our understanding is that as long as there is at least one impaired accepting class, the bankruptcy court may “cram down” a plan over dissenting classes of creditors, as long as the plan is fair and equitable to the dissenting classes of creditors and does not discriminate against them. In Canada, there is no “cram down” in the CCAA. The plan must be approved by each class of creditors affected by the plan. Also, the court-appointed monitor will need to advise the court on the reasonableness and fairness of the proposed plan.
Mathieu: Linc, financing a restructuring proceeding presents both opportunities and challenges for the lending community, but it’s a big decision. What are some of the key differences between the U.S. and Canadian approaches?
Linc: Again, this is an example where the regimes are going to be more similar in effect or in function than they are going to be dissimilar. So, the U.S. will often times grant super priority liens to DIP lenders or interim lenders that are essentially financing the restructuring proceeding itself. When you do that and you are granting these priority liens, the court is going to have to think about what effect is this going to have on my prepetition lenders. Somebody is already there; he’s already lent money and potentially someone else is coming in lending ahead of them. And so, in the U.S., you have this concept of what they call adequate protection. If you’re going to grant a lien that diminishes the value of the prepetition lenders’ security, then you have to make sure they are adequately protected, and that could be through providing for periodic payments of interest or providing them replacement liens on other collateral, so that their collateral base isn’t completely eroded. We don’t really have that concept of adequate protection in Canada and when we look at granting priming liens, we think about it in terms of material prejudice. It is the benefit to the debtor company significant relative to the prejudice that’s being suffered by the pre-existing lender who’s being primed. So, the court’s going to look at—well, what did the court-appointed monitor recommend? How long are these proceedings? What really is the collateral base? What’s the management’s position in all this? And does the management have the confidence of those pre-existing lenders? It’ll take all those factors into consideration in deciding whether or not to grant super priority liens in favor of DIP lenders.
Peggy: Kelly, distressed M&A transactions are a big part of your practice. How different is the Canadian process for the sale of distressed assets from the U.S. one?
Kelly: Peggy, I would say that there is not significant difference, though how we approach them may be different. In the U.S., we hear about 363 sales, which is a reference to the provision of the U.S. Bankruptcy Code that governs going concern sales. In these sales, there will often be a stalking horse bidder and there will also be bidding procedures put in place before the sale commences. In Canada, Section 36 of the CCAA is the relevant provision, and that sets out the test for approval of a going concern sale. The court will look at various things, including, in particular, whether the monitor is of the view that the sale process was conducted with integrity, how the debtor company consulted with creditors and whether they consulted with creditors, and also whether the process was approved by the court prior to the proposed sale being brought forward. Unlike Chapter 11 proceedings, there are not typically auctions at the end of a Canadian sale process, but rather the highest and best bid is brought forward for approval. Credit bidding is specifically provided for in the U.S. Bankruptcy Code, and that would be where a creditor effectively uses its debt as the consideration for its bid. In Canada, credit bidding isn’t specifically referenced in the CCAA, but it is a commonly accepted form of bid in a CCAA sale process.
Mathieu: Sébastien, in the U.S., there is the concept of a carve-out from the DIP lien that ensures professionals are paid. Administrative claims also have priority over pre-filing unsecured claims to ensure the process runs smoothly. How do professionals and other key parties in Canada ensure payment for goods and services post-filing?
Sébastien: No doubt, Mathieu, it could be a sensitive issue. But, in Canada, we have court order priority for professional fees, which include company’s counsel, the monitor, the monitor’s counsel and sometimes others including CRO and financial advisor. Under the CCAA, we don’t have an equivalent to post-filing administrative claims. And, unlike in the U.S., ordinary post-filing suppliers do not enjoy any priority with respect to the unpaid supply of goods and services. However, Canadian suppliers cannot be required to extend trade credit to debtor companies, but they can insist on COD terms. One exception to this is critical suppliers. In Canada, critical suppliers can be compelled to supply goods on payment terms, but they are also entitled to a priority charge to secure payment. In addition, the court in certain circumstances can authorize the payment of pre-filing amounts to ensure continued supply. We see this most often with offshore critical suppliers that don’t consider themselves subject to the CCAA court jurisdiction, and will not continue to supply unless the arrears are paid. Another important court order charge for stakeholders to be aware of is the D&O charge. Directors in Canada can be liable for certain obligations of the debtor company if not paid by the debtor. In order to help ensure directors to stick around throughout the restructuring, courts can grant a priority charge to secure the indemnity granted to directors by the debtor for any such liability that arises after the filing date, and that charge can rank usually ahead of secured creditors, or even a DIP lender. Usually, this protection is available to the extent the company has no insurance in place that protects the D&O, or that the company is unable to obtain such coverage.
Peggy: Sébastien, Linc and Kelly thank you for your pragmatic guidance and insights about a complicated process.
Mathieu: Listeners, if you’d like more information about insolvency proceedings or any other topic related to COVID-19 and the law please visit Blakes.com.
Peggy: Until next time, stay well and stay safe.