Options for Debtors and Creditors in Corporate Insolvency: An Overview of Insolvency Legislation
While the first wave of COVID-19 appears to have ebbed, particularly in Manitoba, many businesses are only beginning to take account of the past few months’ economic impact and are struggling to forecast their futures. As financial support programs run toward their end (for now) and the prospect of a resurgence of infections is ever looming at home and abroad, many predict a sharp increase in corporate insolvencies. As such, many businesses may be contemplating how to navigate serious financial distress for the first time, and with less time to consider their options than they could have expected even a few months ago.
Accordingly, we provide a brief and necessarily incomplete summary of the variety of legal procedures available to insolvent corporations and their creditors. Different options and procedures are available to insolvent individuals, which are not discussed in this article. An individual considering some form of insolvency proceeding would be wise to arrange to meet with a Licensed Insolvency Trustee to discuss their options.
Bankruptcy under the Bankruptcy and Insolvency Act (“BIA”)
Where a corporation is generally unable to meet its obligations as they come due, the corporation can assign itself into bankruptcy. Once bankrupt, all proceedings against a corporation, its assets, and the vicarious liabilities of its directors are stayed (subject to certain exceptions that can arise with secured creditors). Formally speaking, this process is commenced either by the debtor corporation assigning itself into bankruptcy, or by a creditor seeking an order of the court petitioning the corporation into bankruptcy.
In either event, once bankrupt, all the debtor corporation’s assets come under the control of the Licensed Insolvency Trustee (“LIT”) who has been retained for that purpose. LIT’s are federally licensed professionals who are specifically authorized to administer insolvency proceedings under the BIA. In that capacity, the LIT is responsible for investigating the affairs of the corporation, locating and securing assets, and reviewing transactions that may be reversible under the BIA (transfers of property at undervalue, dividends in the face of insolvency, etc.). Certain powers and remedies exercisable by an LIT under the BIA are more comprehensive than those generally available to creditors outside a bankruptcy. Ultimately, the assets of the bankrupt corporation are sold by the LIT, and the proceeds of the same, are distributed to creditors according to a priority scheme, set out primarily in section 136 of the BIA.
Proposals under the BIA
Where a corporation cannot meet all of its obligations as they come due, but its ongoing operations are generally viable, it may be possible to avoid bankruptcy and resolve financial difficulties by making a formal proposal to its creditors (often referred to as a “Division 1 Proposal,” because of where in the BIA the proposal procedures are set out). A proposal will stay proceedings the same way as is the case in bankruptcy.
The essential elements of a viable proposal are that creditors of the same class are treated alike and that the return to creditors is greater than would be if the corporation went bankrupt. This analysis is generally conducted with the aid of an LIT, who will act as Proposal Trustee, and who generally oversees the performance of the proposal and the various steps involved in putting a proposal in place.
The primary advantage for a corporation in making a proposal of going bankrupt is that it retains control of its assets and business. If the proposal is fully performed, creditors will receive proposal payments totalling X cents on the dollar, and their claim will be discharged entirely.
Often, in advance of formulating and presenting a proposal to creditors, an insolvent corporation will take a preliminary step available to it under the BIA of filing a Notice of Intention to Make a Proposal (often referred to as an “NOI”). Like a proposal, the NOI stays all proceedings against the corporation. There is a deadline of 30 days from filing an NOI to filing a Proposal, but that deadline can be extended by order of the court (to a maximum of an additional five months) to allow the debtor corporation to formulate a proposal. If, after an NOI is filed, a proposal is not made within the relevant deadline, then the corporation is deemed bankrupt.
Where a Proposal is made, it is voted on by creditors at a meeting of creditors called by the proposal trustee for that purpose. To be accepted, the proposal must receive the approval of a majority of creditors holding more than 2/3’s of the dollar value of the debt of the creditors who vote on the proposal. If creditors do not approve the proposal, the debtor business is deemed assigned bankrupt. If they do accept the proposal, it is then subject to approval by the court. Once court approval is obtained, the debtor performs the proposal (which could cover a period of months or years), and upon completion, the balance of the debts covered by the proposal are discharged.
Extension to time to hold first meeting of creditors in light of COVID-19
In response to COVID-19, courts in all provinces, on the application of the Office of the Superintendent in Bankruptcy (OSB), extended the time for businesses to hold the first meeting of creditors, at which a proposal would be voted on (For example, the Order with respect to Manitoba can be seen on the OSB’s website here). The effect of this order has been to give more time to businesses to make sense of their prospects in these unprecedented times. This period of extension, from April 27 to June 30, 2020, effectively suspended the running of legislated timelines during that period. It remains to be seen if any further extensions are forthcoming.
Proceedings under the Companies’ Creditors Arrangement Act (“CCAA”)
For larger companies whose debts exceed $5 million, there is another legislated route available in addition to the proceedings under the BIA set out above, under the CCAA.
A CCAA proceeding is commenced at the corporation’s initiative, by obtaining an order of the court, generally referred to as an “initial order.” An initial order will generally stay proceedings against the company (and unlike under the BIA, can be expanded to stay secured creditors as well), appoint an LIT to act as the “Monitor” (an officer of the court who acts as a sort of supervisor of the proceedings), and in most cases, grant a priority charge over the debtor’s assets to a newly proposed lender (a “Debtor in Possession Lender” or more commonly “DIP Lender”) as well as a charge to cover professional fees.
Recent amendments to the CCAA aimed at ensuring third parties have more say in the early stages of a CCAA proceeding have constrained the scope of initial orders: where once the initial order provided a stay of proceedings for 30 days, it now provides for only 10 days. Similarly, charges in favour of DIP Lenders and other relief on the initial order are now only to be made to the extent that they are reasonably necessary for the continued operations of the debtor business during that initial 10-day period. This reduced scope and shortened time period is intended to give other interested parties an opportunity to shape and structure the proceedings at an early stage, and ensure their interests are not excessively compromised before they have an opportunity to assert them.
A CCAA proceeding provides substantial flexibility to the parties in an effort to either formulate a plan of compromise (which is something like a proposal) that will allow the business, or some aspects of it, to continue operating, or to carry out the most effective process for liquidating its assets. Although there is frequently substantial court oversight, a CCAA proceeding allows for creative and tailor-made solutions to often substantially complex situations.
Proceedings under the BIA are generally designed to address a corporation’s unsecured obligations. Secured creditors generally have greater control of the process whereby they realize on the assets of a debtor. Where a corporation is in default of its obligations to a secured creditor, the secured creditor may take steps to appoint a receiver to realize on the security. The creditor may do this one of two ways: by private appointment under the terms of the security agreement between debtor and creditor, in which case the receiver acts in the interests of the secured creditor and realizes only upon the secured assets, or by order of the court under s. 243 of the BIA and/or under s. 55 of the Court of Queen’s Bench Act, whereby a receiver is an officer of the court, realizes upon all of the debtors assets, and distributes them to all creditors according to their priority. In certain cases, a receivership may be in the interests of a debtor company as well.
Before taking steps to enforce against all or substantially all of a debtor’s assets, section 244 of the BIA requires the secured creditor to provide ten-day written notice of its intention (often referred to as “section 244 notice”). Accordingly, even when a secured creditor intends to move privately under its security agreement, it is essential it is in compliance with BIA.
We are available.
We recognize the significant economic and personal consequences facing our clients at this time. It projects to be an unfortunate reality for many Canadian businesses that shutdowns and slowdowns will translate into insurmountable financial distress. Although it is cold comfort, taking the proper avenue set out above for one’s particular circumstances could substantially soften the blow to distressed businesses, owners, employees, and the economy as a whole.The key contacts are:
Resource posted on June 15, 2020, with a report from Kalev Anniko.