What employers need to know about the changes being pondered by the federal government
A number of insolvency reforms were passed by the Canadian government in late 2005 but were not proclaimed into effect because a Senate committee identified numerous technical flaws in the legislation. The insolvency reforms have been under review since that time and the federal government recently released a draft package of revisions. The proposed revisions were made public as part of a low-profile notice of motion filed in Parliament just before Christmas.
Background
The main elements of the amendments passed in 2005 are not changed by the proposed revisions. The changes adopted in 2005 included:
•The creation of a wage earner protection plan to fund the payment of certain unpaid wages owing to employees at the time a business goes into bankruptcy or receivership.
•The creation of two super priority charges — one over the current assets of a debtor to secure unpaid wages owing to employees of up to $2,000 per employee, and the other over all of the debtor’s assets to secure unpaid normal cost pension contributions. Both of these super priority charges would rank ahead of pre-existing security.
•The codification of much of the case law that has developed in restructurings under the Companies Creditors Arrangement Act, including provisions to specifically outline the authority of the court to authorize debtor-in-possession (DIP) financing, authorize the sale of assets in a restructuring proceeding, and permit the debtor to disclaim or assign certain contracts.
•Protections in insolvency for collective agreements and for licences of intellectual property.
•Provisions to permit the appointment of a receiver with powers that are exercisable throughout Canada, not just in the province where the appointment is made.
•Provisions to limit the rights of equity claims in a restructuring.
•The adoption of procedures for dealing with cross-border insolvency proceedings based on an UNCITRAL model law that has been adopted in a number of countries, including the United States (Chapter 15 of the U.S. Bankruptcy Code).
Proposed revisions to initial reforms
The draft revisions include proposed changes to the Bankruptcy and Insolvency Act (BIA), Companies Creditors Arrangement Act (CCAA) and the Wage Earner Protection Plan Act. While most of the changes are technical, several of the revisions could have significant practical implications. The changes include the following:
Priority claims for wages and pensions. The scope of the charge for unpaid wages over the current assets of the debtor has been clarified. The definition of current assets in the 2005 amendments was widely criticized as being too broad and too uncertain. Under the proposed amendments the definition is amended to refer to more customary terminology: “cash, cash equivalents — including negotiable instruments and demand deposits – inventory or accounts receivable, or the proceeds from any dealing with those assets.”
The amendments also close a loophole in the 2005 amendments that would have permitted a debtor to sell assets in a restructuring proceeding without having to pay these wage and pension claims. The revisions will require the debtor to satisfy the court that these payments will be made before the court approves the sale.
Payment of wages when a business is operated in receivership or bankruptcy. A receiver or trustee that operates a business as a going concern will be permitted to pay employees their unpaid wages for the period prior to the insolvency proceedings in the ordinary course. The priority claim for wages owed as of the date of the receivership or bankruptcy will be reduced to the extent the wages are paid by the receiver or trustee.
Protection of insolvency professionals. As a result of recent case law, there has been a concern that receivers and trustees in bankruptcy could become personally liable for obligations of the debtor and could be considered a successor employer under provincial or federal labour and employment legislation.
As a result, there was a risk that a receiver or trustee could become liable for the debtor’s obligations under a collective agreement or pension plan. Under the proposed revisions, a receiver or trustee in bankruptcy of an insolvent business will not be personally liable for a liability, including as a successor employer, in respect of employees or former employees of the debtor or a predecessor of the debtor, or in respect of a pension plan for such employees, that exists before its appointment or that is calculated by reference to a period before the appointment.
This protection will not extend to a successor employer other than the trustee or receiver, so a purchaser of an insolvent business will still need to review these potential liabilities as part of its due diligence.
DIP financing. Advance notice to the secured creditors who could be affected by a priority charge for DIP financing will be required in all cases. The 2005 amendments would have required advance notice only for financing that took place after the first 30 days of the case. The new amendments also provide that the priority charge for DIP financing can only secure new loans made after the commencement of the proceedings.
Voting rights on assigned debt. One of the 2005 amendments would have prohibited a buyer of a claim against the debtor from voting the claim in CCAA proceedings unless the whole claim is acquired. This change has been dropped. It would have impeded the active market in distressed debt, where creditors often sell part of their claims.
Eligible financial contracts. The exemption of “eligible financial contracts” from most provisions of the CCAA and the BIA will be clarified, to make it clear that the exemption of eligible financial contracts from the stay of proceedings and other provisions of the CCAA and BIA is not overridden by other aspects of the amendments. The definition of what qualifies as an “eligible financial contract” will be made more flexible, as the definition will be set out in regulations to the BIA and CCAA. Regulations are implemented by the federal cabinet, with the result that they can be modified from time to time without the need for amendment to the legislation itself.
National receivers. Provisions in the 2005 amendments permitting a court to appoint a national receiver have been expanded to elaborate on the powers the court can give to the receiver, including taking possession of the debtor’s assets, exercising control over its business, and taking any other action the court considers advisable. Another change will provide that the court may not appoint a receiver at the request of a secured creditor unless the debtor has received a 10-day notice of the secured creditor’s intention to enforce its security (comparable to the notice that would be required for the private enforcement of the security). The court can act before the end of the 10-day period if the debtor consents or if the court considers it appropriate to appoint a receiver before then.
Equity claims. The 2005 amendments stipulated that certain equity claims would be subordinated to creditor claims in a restructuring, and that these claims would not have voting rights. The new amendments expand the description of “equity claims” to include a claim for a dividend or similar payment, a return of capital, a redemption or retraction obligation, a monetary loss resulting from the ownership, purchase or sale of an equity interest or from the rescission (or in Quebec, the annulment) of a purchase or sale of an equity interest, or for contribution or indemnity in respect of any such claim. The amendments also clarify that a CCAA plan or BIA proposal can become effective without requiring a vote of the holders of equity claims.
Executory contracts. Provisions in the 2005 amendments giving a debtor the right to disclaim a contract in a CCAA case or in a proposal under the BIA have been modified. Under the amended terms, before disclaiming the contract the debtor must obtain the approval of the monitor or proposal trustee, or approval of the court. If requested by the counterparty, the debtor must provide an explanation of the business reasons for wanting to disclaim the contract. If the disclaimer is disputed, the court may approve the disclaimer, but is directed to consider a number of factors, including whether the disclaimer will enhance the prospects of a viable proposal or arrangement being made, and whether the disclaimer is likely to cause significant financial hardship to the counterparty. The debtor does not have the right to disclaim certain types of contracts: an eligible financial contract, a lease of real property, or a financing agreement where the debtor is the borrower.
Intellectual property. Broader protection is provided for rights of a licensee of intellectual property. A licensee’s right to enforce an exclusive licence and to retain a licence during the term of the agreement, including any period for which the party extends the agreement as of right, will be explicitly protected.
Assignment of agreements. Under the new proposal, the debtor will not be permitted to ask the court to order an assignment of an agreement entered into after CCAA proceedings are commenced. The requirement that the debtor cure all defaults under the agreement prior to the assignment will be limited to a requirement to cure all monetary defaults and related cross-defaults.
Income trusts. An income trust will be permitted to commence insolvency proceedings under the BIA or under the CCAA if it is listed on a prescribed stock exchange at the time the proceedings begin, or if its units are owned by a trust that is listed on a prescribed stock exchange on that date. The prior wording would not have permitted filings of both levels of the “trust on trust” structure commonly used by many income trusts.
Transfers at undervalue. The 2005 amendments replaced several technical remedies with a general power to challenge “transfers at undervalue” by the debtor. The new revisions provide that these remedies will be available in CCAA proceedings as well as in bankruptcy proceedings under the BIA, and may be assigned to creditors.
Next steps
The 2005 amendments were passed by the House of Commons and Senate very quickly in late November 2005, just prior to the last federal election, after minimal public hearings.
Because of the concerns expressed by the Senate, the former government promised that the amendments would not go into effect until the Senate had an opportunity to conduct a more complete review of the amendments and consider any necessary changes.
Depending on the legislative timetable and the timing of a possible federal election, the revisions may be introduced in Parliament early this year.
Susan Grundy is a partner with Blake, Cassels & Graydon LLP in Toronto and co-chair of the firm’s Restructuring & Insolvency Group. She can be reached at (416) 863-2572 or [email protected].
Background
The main elements of the amendments passed in 2005 are not changed by the proposed revisions. The changes adopted in 2005 included:
•The creation of a wage earner protection plan to fund the payment of certain unpaid wages owing to employees at the time a business goes into bankruptcy or receivership.
•The creation of two super priority charges — one over the current assets of a debtor to secure unpaid wages owing to employees of up to $2,000 per employee, and the other over all of the debtor’s assets to secure unpaid normal cost pension contributions. Both of these super priority charges would rank ahead of pre-existing security.
•The codification of much of the case law that has developed in restructurings under the Companies Creditors Arrangement Act, including provisions to specifically outline the authority of the court to authorize debtor-in-possession (DIP) financing, authorize the sale of assets in a restructuring proceeding, and permit the debtor to disclaim or assign certain contracts.
•Protections in insolvency for collective agreements and for licences of intellectual property.
•Provisions to permit the appointment of a receiver with powers that are exercisable throughout Canada, not just in the province where the appointment is made.
•Provisions to limit the rights of equity claims in a restructuring.
•The adoption of procedures for dealing with cross-border insolvency proceedings based on an UNCITRAL model law that has been adopted in a number of countries, including the United States (Chapter 15 of the U.S. Bankruptcy Code).
Proposed revisions to initial reforms
The draft revisions include proposed changes to the Bankruptcy and Insolvency Act (BIA), Companies Creditors Arrangement Act (CCAA) and the Wage Earner Protection Plan Act. While most of the changes are technical, several of the revisions could have significant practical implications. The changes include the following:
Priority claims for wages and pensions. The scope of the charge for unpaid wages over the current assets of the debtor has been clarified. The definition of current assets in the 2005 amendments was widely criticized as being too broad and too uncertain. Under the proposed amendments the definition is amended to refer to more customary terminology: “cash, cash equivalents — including negotiable instruments and demand deposits – inventory or accounts receivable, or the proceeds from any dealing with those assets.”
The amendments also close a loophole in the 2005 amendments that would have permitted a debtor to sell assets in a restructuring proceeding without having to pay these wage and pension claims. The revisions will require the debtor to satisfy the court that these payments will be made before the court approves the sale.
Payment of wages when a business is operated in receivership or bankruptcy. A receiver or trustee that operates a business as a going concern will be permitted to pay employees their unpaid wages for the period prior to the insolvency proceedings in the ordinary course. The priority claim for wages owed as of the date of the receivership or bankruptcy will be reduced to the extent the wages are paid by the receiver or trustee.
Protection of insolvency professionals. As a result of recent case law, there has been a concern that receivers and trustees in bankruptcy could become personally liable for obligations of the debtor and could be considered a successor employer under provincial or federal labour and employment legislation.
As a result, there was a risk that a receiver or trustee could become liable for the debtor’s obligations under a collective agreement or pension plan. Under the proposed revisions, a receiver or trustee in bankruptcy of an insolvent business will not be personally liable for a liability, including as a successor employer, in respect of employees or former employees of the debtor or a predecessor of the debtor, or in respect of a pension plan for such employees, that exists before its appointment or that is calculated by reference to a period before the appointment.
This protection will not extend to a successor employer other than the trustee or receiver, so a purchaser of an insolvent business will still need to review these potential liabilities as part of its due diligence.
DIP financing. Advance notice to the secured creditors who could be affected by a priority charge for DIP financing will be required in all cases. The 2005 amendments would have required advance notice only for financing that took place after the first 30 days of the case. The new amendments also provide that the priority charge for DIP financing can only secure new loans made after the commencement of the proceedings.
Voting rights on assigned debt. One of the 2005 amendments would have prohibited a buyer of a claim against the debtor from voting the claim in CCAA proceedings unless the whole claim is acquired. This change has been dropped. It would have impeded the active market in distressed debt, where creditors often sell part of their claims.
Eligible financial contracts. The exemption of “eligible financial contracts” from most provisions of the CCAA and the BIA will be clarified, to make it clear that the exemption of eligible financial contracts from the stay of proceedings and other provisions of the CCAA and BIA is not overridden by other aspects of the amendments. The definition of what qualifies as an “eligible financial contract” will be made more flexible, as the definition will be set out in regulations to the BIA and CCAA. Regulations are implemented by the federal cabinet, with the result that they can be modified from time to time without the need for amendment to the legislation itself.
National receivers. Provisions in the 2005 amendments permitting a court to appoint a national receiver have been expanded to elaborate on the powers the court can give to the receiver, including taking possession of the debtor’s assets, exercising control over its business, and taking any other action the court considers advisable. Another change will provide that the court may not appoint a receiver at the request of a secured creditor unless the debtor has received a 10-day notice of the secured creditor’s intention to enforce its security (comparable to the notice that would be required for the private enforcement of the security). The court can act before the end of the 10-day period if the debtor consents or if the court considers it appropriate to appoint a receiver before then.
Equity claims. The 2005 amendments stipulated that certain equity claims would be subordinated to creditor claims in a restructuring, and that these claims would not have voting rights. The new amendments expand the description of “equity claims” to include a claim for a dividend or similar payment, a return of capital, a redemption or retraction obligation, a monetary loss resulting from the ownership, purchase or sale of an equity interest or from the rescission (or in Quebec, the annulment) of a purchase or sale of an equity interest, or for contribution or indemnity in respect of any such claim. The amendments also clarify that a CCAA plan or BIA proposal can become effective without requiring a vote of the holders of equity claims.
Executory contracts. Provisions in the 2005 amendments giving a debtor the right to disclaim a contract in a CCAA case or in a proposal under the BIA have been modified. Under the amended terms, before disclaiming the contract the debtor must obtain the approval of the monitor or proposal trustee, or approval of the court. If requested by the counterparty, the debtor must provide an explanation of the business reasons for wanting to disclaim the contract. If the disclaimer is disputed, the court may approve the disclaimer, but is directed to consider a number of factors, including whether the disclaimer will enhance the prospects of a viable proposal or arrangement being made, and whether the disclaimer is likely to cause significant financial hardship to the counterparty. The debtor does not have the right to disclaim certain types of contracts: an eligible financial contract, a lease of real property, or a financing agreement where the debtor is the borrower.
Intellectual property. Broader protection is provided for rights of a licensee of intellectual property. A licensee’s right to enforce an exclusive licence and to retain a licence during the term of the agreement, including any period for which the party extends the agreement as of right, will be explicitly protected.
Assignment of agreements. Under the new proposal, the debtor will not be permitted to ask the court to order an assignment of an agreement entered into after CCAA proceedings are commenced. The requirement that the debtor cure all defaults under the agreement prior to the assignment will be limited to a requirement to cure all monetary defaults and related cross-defaults.
Income trusts. An income trust will be permitted to commence insolvency proceedings under the BIA or under the CCAA if it is listed on a prescribed stock exchange at the time the proceedings begin, or if its units are owned by a trust that is listed on a prescribed stock exchange on that date. The prior wording would not have permitted filings of both levels of the “trust on trust” structure commonly used by many income trusts.
Transfers at undervalue. The 2005 amendments replaced several technical remedies with a general power to challenge “transfers at undervalue” by the debtor. The new revisions provide that these remedies will be available in CCAA proceedings as well as in bankruptcy proceedings under the BIA, and may be assigned to creditors.
Next steps
The 2005 amendments were passed by the House of Commons and Senate very quickly in late November 2005, just prior to the last federal election, after minimal public hearings.
Because of the concerns expressed by the Senate, the former government promised that the amendments would not go into effect until the Senate had an opportunity to conduct a more complete review of the amendments and consider any necessary changes.
Depending on the legislative timetable and the timing of a possible federal election, the revisions may be introduced in Parliament early this year.
Susan Grundy is a partner with Blake, Cassels & Graydon LLP in Toronto and co-chair of the firm’s Restructuring & Insolvency Group. She can be reached at (416) 863-2572 or [email protected].
