As you can imagine, many companies throughout the country may face the prospect of insolvency or bankruptcy in the coming weeks or months, given the financial distress in cannabis markets currently and the impact that the measures to contain Covid-19 are expected to have on the Canadian economy for the foreseeable future. A number of these companies may, however, be able to restructure their operations to continue as viable going concerns using insolvency legislation in Canada.
In a recent post, we discussed the potential to restructure under the Companies’ Creditors Arrangement Act (CCAA) for companies owing at least $5 million to creditors. Smaller companies, however, may be able to take advantage of similar proposal provisions under Part III of the Bankruptcy and Insolvency Act (BIA) to restructure.
Overview of Proposals Under the BIA
Under Part III of the BIA, an insolvent company may avoid bankruptcy by making a proposal to its creditors with a view to reaching a compromise regarding their claims. The process generally begins with the filing of a notice of intention (NOI) to make a proposal with the Official Receiver, which stays all proceedings by creditors against the company for a period of 30 days. During the stay, a company may continue to operate its business while seeking a compromise with its creditors, which, if successful, would allow it to emerge as a viable going concern. The stay can be extended for up to six months so long as the company has been acting in good faith and with due diligence, provided it would not be materially prejudicial to creditors.
All interested persons in a BIA proceeding are required to act in good faith with respect to those proceedings. If the Court is satisfied that a person has failed to act in good faith, on application by an interested person, the Court may make any order that it considers appropriate in the circumstances.
Pre-Filing of Notice of Intention
In advance of filing the NOI, a company will generally seek out a qualified proposal trustee to be appointed by the Official Receiver to oversee the filing of the NOI and proposed restructuring. The proposal trustee will generally monitor the company’s business, report to the Court on any major events that might impact the viability of the company and assist the company in the preparation of a proposal setting out terms of a proposed restructuring with creditors. A proposal trustee is usually an accountant with experience in insolvency.
A company will also generally seek DIP financing prior to filing the NOI, to provide liquidity through the restructuring process. A DIP lender generally won’t fund without approval from the Court of a priority of its interest over existing creditors of the company. A proposal trustee can help secure the commitment of a DIP lender. A company will also often seek out a Chief Restructuring Officer (“CRO”) at this time to be appointed by the Court. This is generally an individual sourced from a firm which specializes in restructuring and turnaround management. This individual either replaces, or in some cases, supplants existing management, bringing important financial and operational expertise, as well as knowledge of the restructuring process under the BIA. Filing the Notice of Intention
To begin the process, a company files a NOI with the Official Receiver, who will also appoint a proposal trustee usually as recommended by the company. Within 10 days after filing of the NOI, the company is required to file a projected cashflow statement with the Official Receiver, together with a report of the trustee and the company relating to its preparation.
The company will then generally make an application to the Court for an order, among other things, approving DIP financing, appointing a CRO, approving a sale and investment solicitation process, approving a key employee retention plan or seeking other approvals as may be required in the circumstances.
The filing of a NOI automatically stays all proceedings by creditors, both unsecured and secured, for a period of 30 days without the need for a Court order. During the stay period, the company will generally prepare a proposal for presentation to its creditors on how it intends to deal with its debts.
While the stay is in place, the company can continue to operate its business, creditors are barred from enforcing debts owed to them and the company is barred from making payments except as may be required to operate its business. In addition, secured creditors are barred from enforcing provisions under any security agreement which restrict the ability of the company to use or deal with assets secured under the agreement, unless the secured creditor has delivered a notice of intention to enforce security more than 10 days before the NOI was filed. However, the stay does not prevent a secured creditor who has already taken possession of secured assets for the purpose of realization before the NOI was filed from dealing with those assets.
The Court may extend the stay beyond the initial 30 day period to provide additional time for the company to prepare a proposal if the company can demonstrate that it is acting in good faith and with due diligence, it is likely to file a restructuring proposal and that an extension of the stay is not materially prejudicial to the creditors. The stay can be extended in 45-day increments for a period not exceeding six months from the date of filing the NOI.
During the stay period, a company will consider one or more paths towards becoming a viable going concern. This may involve a sales and investment solicitation process under which assets may be sold or an investment accepted in the company. Or it may involve a negotiated compromise of claims with creditors, a distribution of equity to creditors, an investment by a third party involving a change in operating structure or some other path. There are no restrictions in this regard.
Once a proposed path has been determined, the company will generally file a proposal with the Official Receiver and call a meeting of creditors to be held within 21 days of the filing. To be able to vote on a proposal at a meeting of creditors, a creditor’s claim must have been proved. To accurately determine the creditors of the company and prove their claims, the company will generally run a process with the proposal trustee in accordance with the requirements set out in the BIA. Under this claims process, creditors generally file proofs of claim with the proposal trustee, which are reviewed by the company and proposal trustee, disputed claims are addressed, and an amount owed is determined.
Creditors may be separated into various classes for the purpose of voting on a proposal at the meeting. Each class of unsecured creditors must approve the proposal by a majority in number and two-thirds in value for the proposal to be deemed accepted by the creditors. A proposal that is approved by a majority in number and two-thirds in value of a class of secured creditors is also deemed to be accepted by that class of creditors provided it has been approved as required by unsecured creditors. Creditors of a secured class that does not approve the proposal as required are not bound by the proposal and may pursue remedies available to them.
If a proposal is not approved as required by unsecured creditors, the company is automatically deemed to have made an assignment in bankruptcy and the related provisions of the BIA would apply. If a proposal is approved by unsecured creditors (and secured creditors as applicable), it must still be sanctioned by the Court.
Court Sanction of Proposal
An application for Court sanctioning of a proposal is generally brought by the company after obtaining the required approvals from creditors. In determining whether to sanction the proposal, the Court considers, among other things, whether the proposal is reasonable. Where the Court is of the opinion that the terms of the proposal are not reasonable or are not calculated to benefit the general body of creditors, the Court may refuse to approve the proposal, even if it has been approved by creditors, in which case the company is deemed to have made an assignment in bankruptcy.
Some Difference Between the BIA and CCAA
While the BIA contains detailed procedural provisions relative to the CCAA, the costs of restructuring under the BIA are generally lower as there are usually fewer court applications required given the BIA mandates a six month period for filing a proposal or the debtor is deemed to have made an assignment in bankruptcy. By the same token, the CCAA provides more flexibility to complete a restructuring without the concern of a looming declaration of bankruptcy.
Furthermore, in the event a proposal is rejected, a debtor is deemed to have made an assignment in bankruptcy under the BIA, while under the CCAA the stay is usually lifted but no similar declaration is deemed to have been made. In addition, the BIA sets out requirements for approvals by certain preferred creditors such as employees which are not specifically set out in the CCAA.
Cross Border Insolvencies
Part XIII of the BIA sets forth provisions for the recognition of foreign insolvency proceedings as contemplated by the UNCITRAL Model Law on Cross-Border Insolvency. A foreign representative may apply to the Court for recognition of a foreign proceeding in respect of which he or she is a foreign representative. If recognized, the Court may make an order, among other things, staying proceedings against the company, restraining further proceedings and prohibiting the company from disposing of any assets in Canada, to allow for the handling of the proceeding as contemplated by the foreign proceeding, subject to a public policy exception.
The United States has adopted the Model Law through Chapter 15 of the U.S. Bankruptcy Code. However, because the U.S. Bankruptcy Code is a federal statute, and cannabis is federally illegal in the United States, it remains unclear whether a U.S. bankruptcy court will recognize a foreign proceeding involving a cannabis company seeking to protect cannabis assets located in the United States during a restructuring. More on this to come in a future post.