The cases highlighted below provide a snapshot of some of the key judgements which shaped the legal landscape with respect to financial services issues in 2012.

  1. Guarantees: Limitation Periods and Enforcement

Limitation Periods

In Equitable Trust Company v. Marsigi, Ernest Marsig ("Marsig") signed a guarantee that was embedded within a registered mortgage document. After exercising its power of sale when the mortgage went into default, the Equitable Trust Company sued Marsig for the deficient amount. Marsig argued that the action on his guarantee was statute barred. He submitted that his guarantee constituted a demand obligation and that all demand obligations are subject to the two year limitation period provided for under Ontario’s Limitations Act, 2002ii (the “Limitations Act”).

The Court held that all guarantees are not treated in the same way, and that guarantees associated with land transactions have historically had different limitation periods from guarantees associated with contract claims. The Court further provided that guarantees given in conjunction with a mortgage transaction affects real property law rights, and are thus governed by the applicable limitation periods set out in Ontario’s Real Property Limitations Actiii (the “ORPLA”) rather than the limitation periods prescribed by the Limitations Act. The provisions of the Limitations Act clearly stipulate that the limitation periods of that Act are precluded from applying when, such as in the case at bar, the ORPLA applies. Thus, in this case, the applicable limitation period was the ten year period provided for under the ORPLA.

As the Court noted, it may not always be easy to determine whether a particular guarantee is subject to the Limitations Act or the ORPLA, and parties seeking to enforce on guarantees should be mindful that this real property limitations regime co-exists with the Limitations Activ.

Enforcement

In Royal Bank of Canada v. Samson Management & Solutions Ltd., the Court needed to determine whether changes made to the underlying loan documentation rendered the guarantee in question unenforceable.

Cheryl Cusack (the "Guarantor") signed a continuing guarantee in favour of Royal Bank of Canada (the "Bank") in 2005 for the present and future liabilities of Samson Management & Solutions Ltd. ("Samson"), up to the amount of $150,000. Although the guarantee was not tied to a specific loan, the loan agreement entered into in 2005 between Samson and the Bank (the "2005 Agreement") was in the principal amount of $150,000.

In 2006, the Bank terminated the 2005 Agreement and established new credit facilities for the benefit of Samson in the amount of $250,000 (the "2006 Agreement"). At the same time, the Guarantor agreed to deliver to the Bank a new guarantee of Samson's indebtedness in the amount of $250,000. In both 2008 and 2009, the Bank and Samson entered into new loan agreements, each of which contained language to the effect that the current agreement cancelled and superseded the previous agreement. In addition to increasing the available credit, changes were made to Samson's reporting requirements and performance ratios. The Bank did not request a new guarantee from the Guarantor in either 2008 or 2009.

The Court noted that the guarantee signed by the Guarantor in 2006 contained a 'principal debtor clause', whereby the Guarantor could be converted into a principal debtor. The Court confirmed that making material changes to the terms of a contract between a creditor and the principal debtor without the consent of a guarantor will relieve such guarantor from liability because the individual would not have been party to the new terms. A guarantor does not have to prove actual or certain prejudice but only needs to show that the material changes to the principal contract show a potential for prejudice to its position.

In this case, the guarantee in question was unenforceable because material changes (i.e. the increase in debt as well as the modified reporting requirements and performance ratios) had been made to the Guarantor’s obligations without her knowledge or consent. Because those changes had the potential for prejudice to the Guarantor, the Bank had an obligation to inform the Guarantor and to obtain her consent to such changes. Further, it was not the Guarantor's responsibility to inquire of the Bank as to the status of the loan facilities; it was the Bank's responsibility to advise the Guarantor of changes to the loan liability such that she would be aware of a change to her risk or prejudice.

  1. Priority

In Lisec America v Barber Suffolk Ltd.i, the issue on appeal was whether Lisec America Inc. (“Lisec”) or Roynat Capital Inc. (“Roynat”) held a prior perfected and first ranking security interest in a waterjet glass cutter (the “Waterjet”).

On July 16, 2007 Lisec sold the Waterjet to Barber Suffolk Limited (“Barber Suffolk”) pursuant to an equipment purchase agreement, which provided for a purchase money security interest (a “PMSI”) in favour of Lisec. On the day of the sale, Barber Suffolk transferred its interest in the Waterjet to Barber Glass Industries Inc. (“Barber Glass”), a related company, without Lisec’s knowledge. At the same time it sold the Waterjet to Barber Suffolk, Lisec sold two pieces of equipment to Barber Glass. Before delivering the equipment, Lisec perfected its security interests by registering financing statements against Barber Suffolk in respect of the Waterjet and against Barber Glass in respect of the other two pieces of equipment.

Around the time the equipment was delivered, Barber Glass was negotiating with Roynat for additional financing, and Barber Glass and Roynat requested that Lisec release its security interest against Barber Glass to enable it to obtain the new financing. Lisec discharged its registration against Barber Glass. On the basis of the discharge, Roynat advanced funds to Barber Glass. The terms of the debenture given by Barber Glass to Roynat specifically granted Roynat a security interest in the Waterjet, and Roynat perfected its security interest by registering a financing statement against Barber Glass. Some of Barber Glass’ indebtedness to Lisec was repaid out of the funds loaned by Roynat to Barber Glass.

On November 10, 2010, Barber Glass was placed in receivership, and Lisec learned shortly thereafter of the transfer of the Waterjet by Barber Suffolk to Barber Glass. On November 17, 2010, Lisec claimed a purchase money security interest in the Waterjet, and registered a financing change statement on November 29, 2010, showing Barber Glass as the new debtor in respect of its security interest in the Waterjet. Roynat argued that Lisec's discharge of its registration against Barber Glass in 2008 caused Lisec's security interest in the Waterjet to become unperfected and therefore the Roynat registration had priority.

The Court held, however, that Lisec's PSMI in the Waterjet remained perfected because Lisec properly registered a financing change statement against Barber Glass in respect of the Waterjet within the time frame prescribed by the PPSA. The Court reasoned that registrations operate to protect a security interest in collateral that has attached. The Court explained that the Barber Suffolk registration in favour of Lisec was a stand-alone registration and was not dependent upon or replaceable by Lisec's initial Barber Glass registration that had been discharged. The Court confirmed that registrations under the Ontario Personal Property Security Actii (“PPSA”) do not operate in a vacuum. Perfection by registration in collateral may only be made in respect of and to the extent of attachment in the specific collateral in the underlying agreement. In this case, the equipment purchase agreements granted Lisec security interests in specific equipment – in the case of Barber Suffolk, the Waterjet and in the case of Barber Glass, the other two pieces of equipment. Barber Glass never did grant Lisec a security interest in the Waterjet, and so Lisec's discharge of its Barber Glass registration had no bearing on the security interest it held in the Waterjet.

The Ontario Court of Appeal quoted Professor Ziegel and David Denomme and said that “where collateral is transferred by a debtor to another person, the new debtor has not created a security interest in [the first secured creditor’s favour]; he merely holds an interest in collateral subject to the prior security interest”v.

The Role of Equity in Determining Priority

The British Columbia Superior Court used a different approach in determining priority by relying on equity to supplement statutory provisions. In KBA Canada, Inc. v. 3S Printers Incvi, the dispute concerned the priority of a PMSI which was registered under the BCPPSA (later defined) but discharged in error. KBA Canada, Inc. (“KBA”) sold a KBA Offset Press (the “Equipment”) to Wells Fargo Equipment Financial Corporation (“Wells Fargo”). Wells Fargo leased the Equipment to 3S Printers Inc. (“3S”), and KBA agreed with Wells Fargo that if 3S defaulted, KBA or a related company would repurchase the lease from Wells Fargo. Wells Fargo and 3S entered into a security agreement collateral to the lease. Wells Fargo then registered a PMSI in the British Columbia Personal Property Registry (“BCPPR”). In early 2010, 3S defaulted in its payment obligation to Wells Fargo and Wells Fargo exercised its right to require KBA or a related company to re-purchase the press. Wells Fargo mistakenly discharged KBA's PMSI without KBA's knowledge.

Wells Fargo re-registered the security agreement, obtaining a new priority date of July 16, 2010 and transferred registration of the re-registered security agreement into the name of KBA. Wells Fargo attempted to obtain waivers of priority from secured creditors of 3S. Some creditors refused to agree to Wells Fargo’s request. Subsequently, KBA seized the equipment in question and it was sold.

The Court held in KBA Canada, Inc. v. 3S Printers Inc that while equity may not intervene in the context of the British Columbia Personal Property Security Actvii (“BCPPSA”) to perfect security interests, there was scope under the BCPPSA to determine priorities in line with equitable principles. The Court held that ss. 68 and 70 of the BCPPSA can be used to apply principles of equity in limited situations (i.e. a prior security interest perfected by registration; a mistaken discharge without notice to the security holder; and no reliance by any competing security holder) to determine priorities. The Court found that such an approach does not offend the BCPPSA’s policy by imposing fairness over certainty and predictability. Rather, certainty and predictability are furthered by preventing a creditor from losing its priority position due to an innocent mistake where there is no prejudice to other creditors.  In finding that KBA was entitled to an order under s. 70 declaring its priority interest, the Court confirmed that an order based on the principle of equity is not inconsistent with the BCPPSA.

  1. Validity of Registration

The issue of whether a lease was a true lease and therefore exempt from the Ontario Personal Property Security Act’s (the “PPSA”) enforcement provisions once again preoccupied Ontario courts. In Re Scottviii, Barbara Joan Scott (the “Bankrupt”) made an assignment in Bankruptcy. Around the time of her assignment, the Bankrupt entered into a lease agreement with Ringuette Auto Sales (“Ringuette”). Ringuette did not register a security interest pursuant to the PPSA, but the Bankrupt disclosed to the trustee-in-bankruptcy (the “Scott Trustee”) that her vehicle was a lease. The Scott Trustee sent a request to Ringuette for particulars of the security interest but received no response. Following her assignment, the Bankrupt continued to pay Ringuette the required monthly lease payment for several months. When she defaulted in payment, Ringuette seized the vehicle. 

The Ontario Superior Court of Justice held that if an automobile is meant to become the property of the debtor after the end of a lease, then the agreement was a security lease and not a true lease. Moreover, the Court found that if a lease is entered into before the debtor’s assignment into bankruptcy, then the automobile forms a part of the debtor’s property. Ringuette was ordered to return all payments made to it after it received notice of the Bankrupt’s assignment into bankruptcy. The Court did find that Ringuette was unaware of the bankruptcy prior to the notice and so allowed it to retain all payments made prior to that notice. The Court also found that Ringuette ought to have registered its security interest in the vehicle, as it was not a true lease. The Scott Trustee was found to have priority over the automobile by virtue of subsections 20(1)(b) and 20(2) of the PPSA which provide that, until perfected, a security interest in collateral is not effective against a person who represents the creditors of a debtor, i.e. a trustee in bankruptcy, and the rights of a statutory lien holder arise at the effective date of bankruptcy or when the lien holder has taken possession.

New Brunswick’s Court of Queen’s Bench also considered the composition of a true lease in Equirex Vehicle Leasing 2007 Inc.ix, explaining that in order to determine a true lease, a transaction must be considered in its entirety. The issue in this case was the nature of the financing contract signed by Ricky Vaughn Douthwright (the “Douthwright Bankrupt”). The Douthwright Bankrupt filed for assignment in bankruptcy and a trustee in bankruptcy (the “Douthwright Trustee”) was appointed. One of the assets listed on the Douthwright Bankrupt's statement of affairs was a truck. The Douthwright Bankrupt had financed the truck under terms of a vehicle lease agreement with Equirex Vehicle Leasing 2007 Inc. (the “Creditor”). The Creditor filed a property claim with the Douthwright Trustee with respect to the truck. The Douthwright Trustee conducted a name search in the personal property security registry using the Douthwright Bankrupt's full legal name. As the search results showed no record of any security registration the Douthwright Trustee issued a notice of dispute of property claim. The Creditor applied to set aside the notice of dispute.

The Creditor’s application was dismissed and the notice of dispute of property claim was held to be valid. The Court found that the vehicle financing agreement was a lease for a term exceeding twelve months and as such required any security interest to be perfected pursuant to New Brunswick’s Personal Property Security Actx (“NBPPSA”). The vehicle financing agreement was in pith and substance a lease and not a trust. The Court held that the primary intention of the Creditor in using the document was to create a financing agreement, not to establish a trust.  It is important to note that the courts will likely give greater consideration to the intention of the parties in creating a document than to the ultimate form of the document.

Ramifications of Inaccurate Security Filings

In Concentra Financial v. A.C. Poirier & Associates Inc. (Trustee of)xi, the issue was whether Concentra's error in registering the incorrect serial number of a mobile home pursuant to the NBPPSA should result in the disallowance of its claim as a secured creditor in bankruptcy proceedings. At the time of the filing for bankruptcy, Ms. Jardine (the “Jardine Bankrupt”) owned a Prestige mobile home located at 18 Black Duck Street in Lincoln, New Brunswick. The serial number affixed to this mobile home is 9566D. Concentra registered its security interest on the mobile home under the NBPPSA registry against serial #95660, rather than 9566D. At the time of filing, the trustee in bankruptcy (the "Jardine Trustee") conducted a search of the NBPPSA for serial number 9566D, the results of which were clear.

Concentra argued that the registration of the incorrect serial number was not "seriously misleading", and that the registration would have been found through a debtor name search. The New Brunswick Court of Queen's Bench, however, disagreed, and dismissed the creditor's appeal. The NBPPSA did not have a dual search requirement and in the case of serial numbered goods, the registration must include both the correct debtor name and correct serial number.

The Court once again confirmed that for serial numbered consumer goods, such as cars, trucks and in this case, a mobile home, a seriously misleading error, such as registering against an incorrect debtor name or serial number is sufficient to establish invalidity of a registration.

  1. Practical Significance

The above mentioned cases reflect some of the nuances and potential risks that parties should consider when entering into financial transactions. Hopefully, these cases will be helpful in establishing best practices.