Canada: Canadian Court Opens The Door To Recognition Of Solvent Schemes Of Arrangement In Canada

Section 425 of the UK’s Companies Act 1985 (the Companies Act) has been utilized in recent years by increasing numbers of UK insurers and reinsurers to effect solvent schemes of arrangement with their policyholders in order to accelerate the agreement and settlement of policyholders’ claims and achieve finality in these claims.

Courts in the US have on a number of occasions been involved with UK solvent schemes, and have granted orders recognizing foreign proceedings relating to such solvent schemes, pursuant to section 304 of the US Bankruptcy Code. Until recently, the issue of whether UK solvent schemes ought to be recognized in Canada had not been determined by a Canadian court. In reasons released in February¹ and April 2005², an Ontario court affirmed its earlier decision to recognize and implement a UK court order initiating section 425 proceedings, thereby opening the door to the recognition of solvent schemes in Canada.

Cavell Insurance Company Limited is a UK-incorporated insurance company that, until 1993, wrote reinsurance business in the London market as well as overseas through branch operations in South Africa, Australia, New Zealand and Canada. In Canada, the Cavell branch was registered with the Canadian federal regulator, the Office of the Superintendent of Financial Institutions (OSFI). In 1993, Cavell ceased underwriting business and its activities from that point onward consisted of the run-off of the reinsurance risks that it had written. The run-off of Cavell’s business was predicted to take in excess of forty years. Cavell prepared a scheme of arrangement (the Cavell Scheme) under section 425 of the Companies Act for proposal to its creditors. In Canada, Cavell’s creditors were essentially cedants to Cavell.

On December 20, 2004, Mr. Justice Park of the UK High Court of Justice granted an initial order in respect of the Cavell Scheme proceedings (the UK Order), granting leave to Cavell to convene a meeting of creditors for the purpose of considering, and, if thought fit, approving, the Cavell Scheme. The UK Order also provided for procedural matters such as notice of the creditors’ meeting.

On December 21, 2004, Cavell applied to the Ontario Superior Court of Justice (the Canadian Court) for an order recognizing in Canada both the UK proceedings and the UK Order. The order being sought also included procedural and notice terms specific to Canadian cedants, as well as a Canadian forum for Canadian claimants. Mr. Justice James Farley granted the order sought by Cavell (the Canadian Order), holding that it was appropriate to grant such an order in the circumstances before him. In his endorsement released the same day,³ he found that there was a real and substantial connection between the subject matter of the UK Order – Cavell, a UK company, and its Scheme – and the jurisdiction of the UK Court, thereby recognizing the UK Court’s jurisdiction over the Scheme proceedings. He further noted that Canadian courts have always been "firm believers" in comity, citing the Supreme Court of Canada’s decision in Beals v. Saldanha (2003) in respect of recognizing judgments of foreign courts:

The importance of comity was analysed at length in Morguard, supra. This doctrine must be permitted to evolve concomitantly with international business relations, cross-border transactions, as well as mobility. The doctrine of comity is:

... grounded in the need in modern times to facilitate the flow of wealth, skills and people across state lines in a fair and orderly manner.

This doctrine is of particular importance viewed internationally. The principles of order and fairness ensure security of transactions, which necessarily underlie the modern concept of private international law...

Justice Farley found that he had jurisdiction to recognize the UK Order under the inherent jurisdiction of the Canadian Court as well as the Canada-UK Convention Providing for the Reciprocal Recognition and Enforcement of Judgments in Civil and Commercial Matters, which had been incorporated into the law of Ontario through the Reciprocal Enforcement of Judgments (U.K.) Act (1990).

Subsequent to the granting of the Canadian Order, a number of Canadian insurance companies that had reinsured with Cavell brought motions before Justice Farley seeking, among other things, to have the Canadian Order set aside.⁴ Justice Farley dismissed their motions, affirming his original decision and holding that Cavell had in this situation met the onus of demonstrating that this was a "fair and legitimate case" for the recognition of the UK Order by the Canadian Court. He noted in his endorsement that the Canadian insurers, having contracted with a UK company, should be "taken to know that they could be subject to a plan of compromise or arrangement pursuant to the UK Companies Act." In reaching this conclusion, Justice Farley also noted the UK Regulators’ review and acceptance of the Cavell Scheme and the US Court Order pursuant to section 304 of the US Bankruptcy Code recognizing the UK proceedings and observed that, in the great majority of similar schemes implemented to date in the UK, scheme companies had been able "to consensually agree" with the reinsureds as to the value of their claims, thereby eliminating the need for a scheme adjudicator to be involved.

Justice Farley drew analogies between the provisions of section 425 of the Companies Act with plans of arrangement provided for within Canadian corporate law statutes and therefore determined that the UK solvent schemes were neither "foreign nor repugnant" to the Canadian courts, as had been suggested.

It should be noted that, although Justice Farley paid a great deal of deference to the UK Court’s jurisdiction over the Scheme and all Scheme creditors (including the Canadian reinsureds), the Canadian Court was careful to ensure that the Canadian Order did not result in undue unfairness to Cavell’s Canadian creditors. In that respect, the Canadian Court had been asked by the moving parties in the comeback motions to review and address the substance and procedures of the Cavell Scheme, including the merits of creating a separate class for the Canadian reinsureds. While Justice Farley declined to do so, holding, among other things, that he did not see the merit in creating such a separate class, he did make the recognition of the UK Order conditional upon four "adjustments" or "safeguards." These adjustments and safeguards related to: the methodology of valuing the Canadian reinsureds’ claims; the appeal rights of the Canadian reinsureds from a decision of the scheme adjudicator; a requirement to videotape the meeting of creditors; and the duty of the scheme adjudicator and scheme administrator to act in good faith and to treat the Canadian reinsureds fairly. Upon a subsequent motion for clarification brought by Cavell, Justice Farley reaffirmed his conclusion that a separate Canadian class was not required in the circumstances, and further discussed the Canadian Court’s willingness to exercise comity in favour of the UK Courts.

Justice Farley also made it clear at both the comeback motions and the subsequent motion for clarification that he did not intend his order to usurp or fetter the authority and discretion of OSFI in respect of Cavell’s Canadian branch. OSFI was involved in the initial application under which the Canadian Order was granted as well as at the subsequent comeback motions and the motion for clarification. OSFI will remain an integral component of the implementation of the Cavell Scheme, should it receive creditor approval at the meeting of creditors and Court approval at the sanction hearings (described below).

The Canadian proceedings provide for a second hearing to be conducted following the meeting of creditors in the UK and the sanction hearing to be held before the UK Court. If the requisite majorities of creditors vote in favour of the Cavell Scheme at the meeting, and the Scheme receives sanction by the UK Court,⁵ Cavell will return to the Canadian Court to seek the Scheme’s final recognition and implementation.

In conclusion, the decision to recognize the UK Order and the application of the principles of comity by the Canadian Court provide both the recognition and the procedure necessary to ensure that foreign solvent schemes of arrangement can be implemented and enforced in Canada.

Cavell was represented in Canada by W. Brian Rose, Liz Pillon, Alan L.W. D’Silva and Karen S. Park of Stikeman Elliott LLP.

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