Restructuring

NORTH OF THE BORDER UPDATE

This article has been contributed to the blog by Andrea Lockhart, an associate in the insolvency and restructuring group of Osler, Hoskin & Harcourt LLP
In Kasten Energy Inc. v. Shamrock Oil & Gas Ltd., 2013 ABQB 63, the Alberta Court of Queen’s Bench considered the application of Kasten Energy Inc. (“Kasten”) to appoint a receiver over all of the assets and undertakings of Shamrock Oil & Gas Ltd. (“Shamrock”). The decision in this case presents a useful and concise summary of the applicable test for the appointment of a receiver, and considers the novel issue of whether a debtor can grant security over an oil and gas lease.
The debtor, Shamrock, had a petroleum and natural gas lease to develop an oil well. It entered into a contract with Premier CAT Service Ltd. (“Premier CAT”) for the construction of a road to the well site. Shamrock became indebted to Premier CAT in the amount of approximately $570,000 bearing interest at 24% pursuant to the terms of the contract. Shamrock granted Premier CAT a security interest in all present and after acquired personal property as security for repayment of the indebtedness pursuant to a general security agreement (“GSA”). Ultimately, Premier CAT assigned the outstanding debt and the GSA to Kasten.
Approximately six months later, Shamrock issued a notice of intention to make a proposal under the Bankruptcy and Insolvency Act (Canada) (the “BIA”).  Under Shamrock’s BIA proposal, Stout Energy Inc. (“Stout”), a grandparent company of Shamrock, agreed to operate the well pursuant to a joint operating agreement with Shamrock. The proposal contemplated that after recovery of Stout’s capital investment, 80% of the net revenue from operations would be paid to secured creditors until payment in full and the remaining 20% of such net revenue would be paid to unsecured creditors until payment in full. Although Kasten rejected the proposal, it was approved by the requisite majorities of creditors and the Court in conformity with the BIA. Shortly thereafter, Kasten issued a demand for payment and a notice of intention to enforce security under section 244 of the BIA. As at the date of demand, the total indebtedness owing to Kasten had increased to approximately $800,000.
Kasten brought an application before the Court for the appointment of a receiver. In considering such application, the Court noted that the applicable test was whether it was just or convenient that such an order be made. The Court outlined several factors to take into consideration when making such determination, including (a) whether irreparable harm may be caused if no order was made, (b) the risk to the security holder taking into consideration the size of the debtor’s equity in the assets and the need for protection or safeguarding of the assets while litigation takes place, (c) whether the security documentation provided for the appointment of a receiver, and (d) the balance of convenience of the parties.
Kasten argued that following the approval of the BIA proposal, Shamrock’s expenses exceeded revenues by a substantial margin and that it was unlikely that Shamrock would be able to repay the indebtedness in a timely manner. In addition, Kasten noted that it had the right to appoint a receiver under the terms of the GSA, and that there was a risk of waste under the operating agreement as Stout was incurring significant expenses for well operations while channelling revenues in a selective manner. In Kasten’s view, the balance of convenience favoured the appointment of a receiver who would be better positioned to distribute revenues equitably to all interested parties. In response, Shamrock submitted that Kasten had not demonstrated irreparable harm, and that Stout had injected significant resources to improve the revenue potential of the well. In addition, Shamrock contended that if a receiver was appointed, there was a risk that Stout would cease such funding and noted that it had initiated a sale process and did not perceive any risk if Kasten waited until completion of such process.
The Court noted that a remedial order to appoint a receiver should not be lightly granted. With respect to Shamrock’s submission that Kasten had not shown irreparable harm, the Court noted that such a finding was not essential for the appointment of a receiver. In addition, the Court was not persuaded that Stout would cease funding Shamrock’s operations, as this would likely amount to a breach under the joint operating agreement in respect of which Shamrock could seek a remedy. The Court noted that it was apparent that Shamrock had not made any substantial payments to Kasten from revenues, and that Kasten had a justifiable basis to believe that it would likely encounter difficulties with Shamrock. Further, the Court noted that no formal bids were received in connection with the sales process as at the bid deadline. Accordingly, after considering all of the relevant factors, including whether other remedies short of a receivership could protect Kasten’s interests, the Court concluded that it was just, convenient and appropriate in the circumstances to appoint a receiver. However, such appointment would be delayed for four months in order to allow a potential sale of the well. If no sale occurred within such time period, the receivership appointment would automatically take effect.
Finally, the Court considered the question of whether Shamrock’s oil and gas lease was covered by the GSA, as Shamrock contended that the authority of a receiver only extended to personal property but not to the lease or sale of the well. Shamrock submitted that the lease was a profit à prendre, which was an interest in land excluded under the Personal Property Security Act (Alberta) (the “PPSA”).  The Court found that the lease was a property interest covered by the PPSA and the GSA, relying heavily on the Supreme Court of Canada’s reasoning in Saulnier (Receiver of) v. Saulnier, 2008 SCC 58. In that case, the Supreme Court of Canada considered the term “property” in the context of a commercial fishing license under the BIA and the Nova Scotia PPSA.  In its reasoning, the Supreme Court of Canada stated that “the subject matter of the license (i.e. the right to participate in a fishery that is exclusive to license holders) coupled with a proprietary interest in the fish caught pursuant to its terms, bears a reasonable analogy to rights traditionally considered at common law to be proprietary in nature …”.  In this instance, the Court noted that the oil and gas lease was analogous, as Shamrock had a licence to access, drill and extract substance from the ground which was coupled with a proprietary interest under the licence in the extracted resource. Such right was transferable, and fell within the power and authority of the receiver, subject to the terms of the oil and gas lease with the Crown.

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