Restructuring

NORTH OF THE BORDER UPDATE

This article has been contributed to the blog by Andrea Lockhart and Steven Golick. Steven Golick is a partner in the insolvency and restructuring group of Osler, Hoskin & Harcourt, LLP, and Andrea Lockhart is an associate in the group. 
The Ontario Superior Court of Justice (Commercial List) recently declined to grant a receivership order under section 243 of the Bankruptcy and Insolvency Act (Canada) (“BIA”) and s. 101 of the Courts of Justice Act (Ontario) (“CJA”) or to approve a proposed  “quick flip” transaction among related companies on the basis of an insufficient evidentiary record. Insolvency practitioners should take note of this case, 9-Ball Interests Inc. v. Traditional Life Sciences Inc., 2012 ONSC 2788, as it provides useful commentary as to the nature of the evidence which will assist the Court in determining whether to grant such extraordinary relief.

The facts of the case are relatively straightforward. The applicant was the sole secured creditor of the debtor. The security had only recently been granted. The proposed receiver had been engaged by the secured creditor to commence a sale process before it had become a secured creditor of the debtor. The demand for payment was made by the secured creditor less than three weeks after the last advance. Each of the corporations involved, the debtor, the secured creditor, and the proposed purchaser, were owned directly or indirectly by the same individual.
The test for the appointment of a receiver under either the BIA or CJA is whether it is “just or convenient” to do so. The Court noted that the general principal guiding the Court’s application of this test is set out in Bank of Nova Scotia v. Freure Village on Clair Creek, [1997] O.J. No. 5088, wherein the Court noted that all of the circumstances of the debtor must be examined, including in particular the nature of the debtor’s property and the rights and interests of all parties in relation thereto. This involves an examination of, among other things, potential costs, the relationship between the debtor and the creditors, the likelihood of maximizing the return on and preservation of the subject property, and the best way of facilitating the work and duties of the receiver. One important (but not determinative) factor is whether the secured party has the right to appoint a receiver pursuant to the terms of its security.
In this case, the secured creditor’s security provided for the private appointment of a receiver.  This is a contractual remedy, which is separate and distinct from a motion to the court to appoint a receiver. However, the Court noted that a Court-appointed receiver is only necessary where: (a) a privately appointed receiver may encounter problems, (b) there are numerous creditors exercising their remedies simultaneously against the debtor or (c) there are priority issues.
In this case, the applicant was the debtor’s sole secured creditor and sole shareholder. Given the nature of the relationship between the parties, the fact that the debtor consented to early enforcement of security, the absence of other secured claims and that there were no employees other than a few consultants whose payments had been kept current, the Court held that this was not a case where a Court-appointed receiver was necessary to “keep the lights on”.
In the absence of specific evidence in the application materials identifying the need for a Court-appointed receiver, the Court was left to infer that the receivership application was premised on circumventing compliance with the Personal Property Security Act (Ontario) enforcement provisions so as to enable a sale of the debtor’s assets to a related party free and clear of all security interest “or other financial or monetary claims”, secured and unsecured. This would include the debtor’s trade claims comprising the majority of the debtor’s third-party indebtedness.
The Court did note that a quick flip transaction may be the only alternative in certain circumstances. In such cases, the Courts have applied the principles set out in Royal Bank of Canada v. Soundair Corp. (1991), 4 OR (3d) 1 (CA) pursuant to which the Court will consider: (a) whether the receiver has made sufficient effort to obtain the best price and has not acted improvidently; (b) the interests of all of the parties; (c) the efficacy and integrity of the process by which offers are obtained; and (iv) whether there has been unfairness in the working out of the process.
In this case, the Court noted multiple gaps in the evidentiary record that precluded the Court from granting the requested approval and vesting order. First, it appeared that the debtor granted security to the secured party at a time when it was insolvent. While the applicant noted that the security was supported by fresh consideration, the application record did not include supporting documentation relating thereto. Further, the Court was not able to determine the scope of the independent security opinion relating to such security and whether such transaction had been closely scrutinized, as the opinion was not included in the application record.  Moreover, neither the applicant nor the proposed receiver had filed with the Court any independent third party valuation of the assets. Absent such asset valuation, extracts from financial records to support the asset book values set out in the application record, or any comment from the debtor’s accountant as to the reasonableness of such book values, the Court was not able to determine the reasonableness of the proposed purchase price.
Based on the lack of evidence, in the circumstances of this case, the Court denied the application, but without prejudice to the ability of the secured creditor to re-apply on better evidence.
This case highlights the fact that even where there is no opposition to an application to seek the appointment by the Court of a receiver and a sale of the debtor’s assets, the parties must take care to ensure that the materials contain adequate evidence to support the application.  This is particularly highlighted where the debtor, secured creditor, and proposed purchaser are all related and an order is sought to approve a quick flip of the assets.

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