In Metcalfe & Mansfield Alternative Investments II Corp., (Re)1 The Court of Appeal of Ontario (the "Court of Appeal") dismissed the appeal commenced by holders of third-party non-bank asset-backed commercial paper ("ABCP") and refused to interfere with the decision of the Ontario Superior Court of Justice (Commercial List) (the "Superior Court") to approve and sanction the plan of compromise and arrangement (the "Plan") as being fair and reasonable.
The decision of the Court of Appeal is important for a number of reasons. With respect to the issue of third-party releases in Companies’ Creditors Arrangement Act ("CCAA") proceedings, the issue at the core of the appeal, the decision confirms that the CCAA permits the inclusion of third-party releases in a plan of compromise or arrangement to be sanctioned by a court where those releases are reasonably connected to the proposed restructuring.
However, in considering the issue of third-party releases, the Court of Appeal discussed and elaborated upon a number of important legal principles which will likely shape the scope of CCAA proceedings and the framework used by superior courts when presiding over CCAA proceedings in the future.
It is the Court of Appeal’s discussion of these legal principles, and the effect that such discussion will have on CCAA proceedings in the future, which is the focus of this update.
In August 2007, a liquidity crisis threatened the Canadian ABCP market. The crisis was triggered by, among other things, a loss of confidence amongst investors stemming from the lack of transparency in the ABCP market. By agreement amongst the major Canadian participants, the $32 billion Canadian ABCP market was frozen, pending an attempt to resolve the crisis through a restructuring of the market.
In March 2008, a committee of ABCP participants commenced proceedings under the CCAA in an effort to restore liquidity to the ABCP market through the implementation of a plan of compromise or arrangement.
The Plan calls for the release of virtually all participants in the Canadian ABCP market from any liability associated with ABCP, with the exception of certain narrow claims relating to fraud. A meeting of creditors was held in April 2008 to vote on the proposed Plan. The vote was overwhelmingly in support of the Plan, as 96% of noteholders voted in favour.
Following the successful vote, Superior Court approval of the Plan was sought. In June 2008, the Superior Court approved and sanctioned the Plan on the basis that it had jurisdiction to sanction a plan calling for third-party releases, and that the Plan including the third-party releases was fair and reasonable.
A number of noteholders who voted against the Plan appealed the decision of the Superior Court, arguing that the court did not have the jurisdiction or legal authority under the CCAA to sanction a plan that imposes an obligation on creditors to give releases to third parties other than the directors of the debtor company.
Decision of the Court of Appeal
The Court of Appeal concluded that the CCAA permits the inclusion of third-party releases in a plan of compromise or arrangement to be sanctioned by the court where those releases are reasonably connected to the proposed restructuring.
The Court of Appeal came to this conclusion through a discussion and consideration of the following principles:
- the open-ended, flexible character of the CCAA itself;
- the broad nature of the term "compromise or arrangement" as used in the CCAA; and
- the express statutory effect of the "double-majority" vote and court sanction which render a plan of compromise or arrangement binding on all creditors, including those unwilling to accept certain portions of it.
The Open-Ended, Flexible Character of the CCAA
The Court of Appeal noted that the CCAA does not contain a comprehensive code that lays out all that is permitted or barred. To the contrary, the CCAA is skeletal in nature, with the Court of Appeal describing it as a sketch, an outline, and a supporting framework for the resolution of corporate insolvencies.
While the Court of Appeal stated that the scope of the CCAA and the powers of a court under it are not limitless, the CCAA is remedial legislation to be liberally construed. The remedial purpose of the CCAA is to facilitate compromises or arrangements between an insolvent debtor company and its creditors. The Court of Appeal observed that the CCAA is designed to be a flexible instrument and that it is the very flexibility of the Act which gives the CCAA its efficacy.
The Court of Appeal confirmed that the CCAA has a broader dimension than simply the direct relations between the debtor company and its creditors, and that this broader public dimension must be weighed in the balance together with the interests of those most directly affected. The CCAA was designed to serve a broad constituency of investors, creditors and employees, and that because of that broad constituency, a court must, when considering applications brought under the CCAA, have regard not only to the individuals and organizations directly affected by the application, but also to the wider public interest.
The Court of Appeal concluded that the open-ended, flexible character of the CCAA itself signals a flexible approach to the application of the CCAA in new and evolving situations, an active judicial role in its application and interpretation, and a liberal approach to that interpretation.
The Broad Nature of the term "Compromise or Arrangement" in the CCAA
Section 4 of the CCAA provides that, where a debtor company has proposed a compromise or arrangement, the court may order a meeting of creditors to consider the compromise and arrangement. Section 6 of the CCAA provides that, where a majority in number representing two-thirds in value of the creditors, or class of creditors, vote in favour of the compromise or arrangement, a court may sanction the compromise or arrangement, which sanction will result in the compromise or arrangement being binding on the debtor company and all the secured and unsecured creditors of the debtor company, among others.
The terms "compromise" and "arrangement" are undefined in the CCAA. The Court of Appeal was of the view that Parliament wisely avoided attempting to anticipate the myriad of business deals that could evolve from the fertile and creative minds of negotiators restructuring their financial affairs. The Court of Appeal remarked that Parliament left the shape and details of those deals to be worked out within the framework of the comprehensive and flexible concepts of "compromise" or "arrangement".
The Court of Appeal held that a compromise or arrangement under the CCAA is to be treated as a contract between the debtor and its creditors. As a result, parties are entitled to put anything into such a plan that could be lawfully incorporated into any contract.
The Court of Appeal concluded that the broad nature of the term "compromise or arrangement" is the entrée to negotiations between the parties affected in a restructuring and furnishes them with the ability to apply the broad scope of their ingenuity in fashioning the proposal.
The Binding Mechanism
The Court of Appeal commented in its decision that Parliament’s reliance on the expansive terms "compromise" or "arrangement" does not stand alone. The scheme of the CCAA supports the intention of Parliament to encourage a wide variety of solutions to corporate insolvencies while at the same time taking into consideration the rights of dissenting creditors. The Court of Appeal noted that an inherent tension exists in insolvency restructurings, since unanimity is frequently impossible, but due regard must be given to the minority creditors.
The Court of Appeal opined that effective insolvency restructurings would not be possible without a statutory mechanism to bind an unwilling minority of creditors. The Court of Appeal surmised that Parliament’s solution to this quandary was to permit a wide range of proposals to be negotiated and put forward (the compromise or arrangement) and to bind all creditors by class to the terms of the plan, but to do so only where the proposal can gain the support of the requisite "double majority" or votes and obtain the sanction of the court on the basis that it is fair and reasonable.
The Court of Appeal concluded that the binding mechanism in the CCAA affords necessary protection to unwilling creditors who may be deprived of certain of their civil and property rights as a result of the process.
The Role of the Court
As a result of the skeletal nature of the CCAA, the Court of Appeal noted that application judges are required to play a role in fleshing out the details of the statutory scheme. The Court of Appeal observed that an application judge in a CCAA proceeding exercises a large measure of discretion regarding whether or not a plan of compromise or arrangement is fair and reasonable.
The Court of Appeal concluded that appellate courts should defer to the decisions of application judges on the fairness and reasonableness of plans of compromise or arrangement and not interfere with their decisions unless there was a demonstrable error on the part of the application judge. Such deference arises from, in part, the fact that application judges often live with and supervise a CCAA restructuring from the outside and are intimately attuned to its dynamics.
The decision of the Court of Appeal is important, as it confirms that the CCAA permits the inclusion of thirdparty releases in a plan of compromise or arrangement to be sanctioned by a court where those releases are reasonably connected to the proposed restructuring. The confirmation that third-party releases can be included in CCAA proceedings will likely expand the scope of restructuring plans, as third-party releases can operate to give plan participants motivation to fund a restructuring plan.
The Court of Appeal, in detailing various principles relating to the CCAA, confirmed that the CCAA can be used in new and evolving situations to negotiate restructurings. By verifying that a CCAA plan of compromise or arrangement is a contract at law, the Court of Appeal has created a playing field where restructuring proposals are only limited by the creativity and ingenuity of the parties negotiating them. The Court of Appeal affirmed that the proposals negotiated amongst parties need not be perfect or satisfy all parties, as parties are permitted by the CCAA to utilize a wide variety of solutions to corporate insolvencies as the CCAA provides the necessary protection to unwilling creditors who may be deprived of certain of their civil and property rights as a result of the process.