Restructuring

NORTH OF THE BORDER UPDATE

This article has been contributed to the blog by Steven Golick and Martino Calvaruso. Steven Golick is a partner in the insolvency and restructuring group of Osler Hoskin & Harcourt LLP, and Martino Calvaruso is an associate in the group.
The recent decision of the Honourable Mr. Justice Morawetz of the Ontario Superior Court of Justice (Commercial List) in Re Nelson Financial Group Ltd. illustrates the use of the Companies’ Creditors Arrangement Act (the “CCAA”) by creditors to effect a change in the management of an insolvent debtor.
Nelson Financial Group Ltd. (“Nelson”) filed for protection from its creditors under the CCAA on March 22, 2010. In June 2010, representative counsel for the promissory noteholders was appointed by the court.
Commencing in September 2010, representative counsel for Nelson’s promissory noteholders sought to remove and replace incumbent management as issues had been raised as to management’s “competency and bona fides”. Representative counsel also obtained confirmation that holders of more than two-thirds of the promissory notes would not support any plan which continued the incumbency of the existing management. As such, the incumbent management resigned in November 2010 and a substantial shareholder was appointed as the Interim Operating Officer (the “IOO”). The incumbent management surrendered all shares, provided a release of claims against Nelson and was provided with a limited release. These arrangements were approved by order of the court. In the same decision, the IOO was also given the powers of the Chief Executive Officer. The IOO oversaw the development of a business plan and a plan of arrangement for Nelson.
This decision of Justice Morawetz sets out the court’s considerations in sanctioning such plan.
The court cited the following test for the sanctioning a plan:

(i)     there has been strict compliance with all statutory requirements and adherence to previous orders of the court;

(ii)     nothing has been done or purported to be done that is not authorized by the CCAA; and

(iii)     the plan is fair and reasonable.

The court indicated that the IOO and the Monitor could not provide any assurances that Nelson had strictly complied with the court orders or the CCAA prior to the appointment of the IOO. In connection therewith, the court also noted that it appeared that Nelson’s former management committed wrongful and/or fraudulent acts in late 2010. The question before the court was whether the inability of the applicant to confirm that the first leg of the test had been complied with throughout the whole proceeding was fatal to a sanction order.
The court determined that it would be appropriate in the unusual circumstances of this case to apply the above test only in respect of compliance with statutory requirements and orders following the IOO’s appointment. As such, the test would be applied in respect of those persons directing the debtor company and those who would benefit from the judicial discretion at the time of the sanction application. The court determined that the above test had been satisfied, given that Nelson had complied with all statutory requirements and court orders following the appointment of the IOO, and that the plan was fair and reasonable.
The decision in Nelson Financial represents an interesting example of creditors using the CCAA to effect a change in the management of a debtor company, while simultaneously restructuring such debtor’s operations. It appears that the court will respect the wishes of creditors in circumstances where a sizeable group of creditors seek the removal and replacement of incumbent management and where such creditors advise the court that they will not support any restructuring unless such management is removed and replaced.
In Nelson Financial, the court used its discretion to modify the test on sanction hearings as only applying to a particular period of time (i.e., after the appointment of the IOO) due to the unusual facts of this case. This allowed the plan, which was supported by a significant majority of creditors, to be sanctioned. The court’s application of this test appears reasonable in the circumstances, especially given prior management’s alleged wrongdoings and fraudulent acts, as well as the fact that a strong majority of the promissory noteholders supported the plan.

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