Last month, in the proceedings of Indalex Limited under the Companies' Creditors Arrangement Act (CCAA), the Ontario Court of Appeal (OCA) made the surprising decision to give priority to Indalex's pension plan wind-up deficiency claims over the claims of Indalex's CCAA-secured lender. While the OCA's decision creates challenges for secured lending to Ontario borrowers with defined benefit pension plans, the scope of the case's application may be limited, and in appropriate circumstances, strategies may be available to lessen its impact.
At the heart of the OCA's decision is its conclusion that all contribution obligations to fund the shortfall have accrued as of the date the plan is wound up. On this reading of Ontario's Pension Benefits Act (PBA), the statutory deemed trust applies to the entire deficiency at that date even if the deficit-related contributions are not then due and the employer had made all contributions when due. Coupled with the provisions of Ontario's Personal Property Security Act (PPSA) that subordinate security interests in accounts and inventory to deemed trusts created under the PBA, on its face, Indalex could severely restrict working capital lending to employers with defined benefit pension plans.
A second theme of the OCA's decision is its criticism of Indalex's handling of the concurrent and often conflicting duties a company faces when it is, on the one hand, the employer providing the pension plan as part of operating its business and, on the other, the administrator of the pension plan with duties to the pension plan members. In the opinion of the OCA, the employer, as administrator of the pension plan, has fiduciary duties that would be breached if the employer filed an assignment in bankruptcy, even if it were clearly and admittedly insolvent, because under the Bankruptcy and Insolvency Act (BIA), the artificial deemed trust created by the PBA would be ineffective.
A third concern for CCAA lenders is the willingness of the OCA to set aside the priority provisions of the order that approved the CCAA loan. That approval order was not under appeal, and specifically provided that the CCAA loan would have priority over all statutory deemed trusts and liens. Nevertheless, the OCA gave priority to the deemed trust for the pension deficit, raising an issue of whether CCAA lenders can safely rely on court orders made in CCAA cases when making court approved loans.
An application for leave to appeal the OCA's decision in Indalex is being prepared by counsel for the debtor and the secured creditor. Observers are hopeful that leave will be granted because of the impact of the case on secured lending and because, in its attempt to restrict access to the federal BIA for insolvent companies, the OCA's decision in Indalex is at odds with the Supreme Court's very recent decision in Century Services v. Canada and the OCA's own decision in Ivaco. In those cases, the courts treated the priority scheme in the BIA as appropriate for the distribution of the proceeds when the debtor's assets are sold in a CCAA case.
While the appeal process unfolds, lenders, borrowers and their advisors have avenues available to them to lessen the impact of the Indalex decision. Firstly, the unusual circumstances of the Indalex case may have had a significant impact on the OCA's decision giving lower courts some scope to distinguish subsequent cases. Certainly, the fact that Indalex's parent company was holding and asserting the CCAA lender claims and had taken a direct role in managing Indalex affected the equities of the case and implicated the CCAA lender with the fiduciary duties of Indalex as plan administrator. An arm's-length CCAA lender may have been treated differently.
Secondly, the newly found deemed trust for the pension deficit has priority only over pre-existing security interests subject to the PPSA in accounts, inventory and their proceeds. This limitation means that pre-existing security interests and mortgages in other assets, for example capital equipment or real estate, are not affected. Further, and importantly, the Bank Act (Canada) may provide an opportunity to qualifying lenders and borrowers to avoid the impact of the Indalex decision.
In situations where Bank Act security is available, the SCC's decision in Royal Bank of Canada v. Sparrow, namely, that security granted pursuant to the Bank Act has priority over subsequently arising statutory deemed trusts, may provide a possible priority solution for qualifying secured lenders in respect of inventory and accounts receivable that are proceeds of inventory. Of particular note is the fact that this SCC decision has been applied by the OCA in the specific context of the deemed trust under Ontario's PBA.
Thirdly, while the OCA did not give effect to the priority provisions of the order that approved the CCAA loan, it did acknowledge that the CCAA court had the power and discretion, under the CCAA, to grant priority to CCAA loans over any deemed trust. The OCA's decision not to give priority to the CCAA lender on the basis of the approval order was based on the OCA's view that (i) insufficient notice had been given to the pension plan members of the motion to approve the CCAA loan, (ii) insufficient disclosure had been given to the CCAA court of the existence of the deficit, and (iii) the CCAA court had not explicitly invoked its paramount power to subordinate the deemed trust for the pension deficiency. In subsequent cases, CCAA lenders may insist that all of these issues be addressed by effective notice, full disclosure and appropriate wording in the approval order before any funds are advanced to CCAA debtors.
In summary, the challenges revived or created by the Indalex decision are significant, and observers from the commercial lending, insolvency and pension industries will be watching eagerly to see the outcome of the expected appeal or any legislative response to the decision that enables current practices to continue. In the meantime, strategies are available to minimize the impacts of the decision.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.