The rise of the reverse vesting order in Canada

October 2021  |  SPECIAL REPORT: RESTRUCTURING & INSOLVENCY

Financier Worldwide Magazine

October 2021 Issue

A much-noted 2020 restructuring development in Canada was the re-emergence of the reverse vesting order (RVO) to facilitate sales in Companies’ Creditors Arrangement Act (CCAA) proceedings (Canada’s functional equivalent to Chapter 11 in the US).

RVOs have been approved by Canadian courts even when there is no value for unsecured creditors (i.e., no plan of arrangement could be filed) and no creditor vote is required. The typical structure involves the creation of a new corporation that is added as a debtor in the CCAA proceeding. The unwanted liabilities, assets and contracts from the original debtor corporation are transferred to (vested into) this new corporation.

Shares of the original corporation can then be sold to a purchaser free and clear of all the unwanted liabilities that have been ‘vested out’. The original debtor corporation emerges from CCAA proceedings. The creditors of the original CCAA debtor are then left with claims against the newly created debtor corporation within the CCAA, which is then placed in bankruptcy or files a plan of arrangement in order to effect creditor distributions.

One of the key advantages offered by RVOs over a plan of arrangement in a CCAA proceeding is speed, since there is no need to conduct a claims process, file a plan of arrangement or hold a creditor vote. Another key aspect of RVOs is that licences held by the original debtor do not have to be transferred to a new entity, and any tax losses and other tax attributes can be retained. The need to maintain licences explains why this tool has come to the fore again during the distressed cannabis company cycle in North America.

Although the RVO structure has been approved without any opposition in a number of previous insolvency proceedings, the RVO granted in the Nemaska case was, for the first time, rendered after a contested hearing.

In Nemaska, the application for approval of an RVO was opposed by an alleged creditor and by certain shareholders of Nemaska. Numerous arguments were raised by the alleged creditor and the shareholders, including that the SCQ did not have jurisdiction under the CCAA to issue an RVO since the RVO does not involve a “sale or disposition of assets” and would allow Nemaska to restructure under and emerge from the CCAA without having to propose a plan of arrangement.

The SCQ noted that contemporary economic problems require innovative solutions, such as RVOs. To the extent that these solutions meet the fundamental objectives and spirit of the CCAA – benefitting all stakeholders – they should be endorsed. The SCQ added that the CCAA gives the supervising judge the flexibility to issue appropriate orders that facilitate the restructuring of an insolvent company, relying on the Supreme Court of Canada’s recent decision in Québec Inc. v. Callidus Capital Corp.

The SCQ went on to note that section 36 of the CCAA provides authority to grant an RVO even though the RVO does not involve the “sale or disposition of assets”. The SCQ considered whether the criteria applicable to a “sale or disposition of assets” were satisfied, namely, whether sufficient efforts to get the best price had been made, whether the parties acted providently, the efficiency and integrity of the process was followed, the interests of the parties and whether any unfairness resulted from the process.

The SCQ noted that all reasonable efforts were made by Nemaska to find the best offer in the circumstances. This was done through a rigorous, efficient, equitable and transparent process, in accordance with the previously court approved sale and investment solicitation process (SISP). The SCQ concluded that there was no doubt that the proposed transaction was fair and reasonable and should be approved for the benefit of all stakeholders.

The SCQ also considered the alternatives available to Nemaska – namely, permitting secured creditors to enforce their security, suspending the business to later attempt another SISP at a significant cost and in uncertain market conditions, or bankruptcy. The SCQ noted that none of these options would provide a more favourable outcome for Nemaska’s stakeholders.

The SCQ went on to state that it is in a case such as this – in which the SCQ is satisfied that the factors to be considered under section 36 of the CCAA are met and that the benefits of the proposed transaction are obvious – that the judge overseeing the restructuring and the interests of all must exercise discretion wisely and allow the proposed transaction, no matter how novel or unprecedented.

Applications for leave to appeal were filed with the QCA by the alleged creditor and the group of shareholders. In seeking leave to appeal to the QCA, they argued that debtor companies must not be permitted to emerge from CCAA protection free and clear of their pre-filing debts in the absence of a plan of compromise or arrangement. They also argued that the SCQ erred in granting certain releases in favour of the directors and officers in the context of the proposed RVO. The QCA dismissed the applications for leave to appeal on 11 November 2020. On 29 April 2021, the SCC also denied leave to appeal.

As a result of its formal recognition in the Nemaska proceedings, the RVO structure is likely to become an increasingly common feature in the Canadian restructuring landscape. Following the Nemaska decision, an RVO was approved for the first time in a restructuring proceeding under the Bankruptcy and Insolvency Act (BIA), in the Tidal Health case.

In fact, this concept has now also been approved in receivership proceedings. For the first time ever, the RVO concept was successfully utilised in the 2021 Vert Infrastructure receivership in order to monetise Vert’s public listing. In a receivership, the ability to create a new corporation and the related governance and ownership considerations are somewhat problematic and certainly would not be easily recognised by a court as being within its accepted discretionary authority. However, a court undoubtedly has the jurisdiction to create a trust by order. Therefore, instead of a new corporation, the motion in Vert Infrastructure sought to create a trust into which the assets and claims would be transferred with the receiver becoming the trustee of the trust.

In granting the order, the court issued an endorsement, finding that the transaction was designed in a practical manner using judicial tools available to the court – specifically, a vesting order, claims channelling and the creation of a common law trust – all for the benefit of Vert’s creditors.

Reverse vesting orders were previously thought to be possible only in proceedings under the CCAA or the restructuring provisions of the BIA. However, the Vert Infrastructure decision confirms that reverse vesting orders can be obtained in receivership proceedings with the appropriate structure. The Vert Infrastructure decision provides insolvency professionals with additional flexibility in structuring sales and reorganisations with potential purchasers and insolvent businesses, allowing them to monetise previously unmonetisable assets and maintaining potentially valuable attributes of the corporate debtor, which, until now, have been lost in bare asset sales. It also demonstrates a court’s willingness to work with counsel to come to creative solutions within insolvency proceedings to the benefit of creditors generally.

 

Robin Schwill and Gabriel Lavery Lepage are partners and Robert Nicholls is an associate at Davies Ward Phillips & Vineberg LLP. Mr Schwill can be contacted on +1 (416) 863 5502 or by email: rschwill@dwpv.com. Mr Lepage can be contacted on +1 (514) 841 6492 or by email: glepage@dwpv.com. Mr Nicholls can be contacted on +1 (416) 367 7484 or by email: rnicholls@dwpv.com.

© Financier Worldwide

BY

Robin Schwill, Gabriel Lavery Lepage and Robert Nicholls

Davies Ward Phillips & Vineberg LLP

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