The Alberta Court of Queen's Bench has released its highly anticipated decision in Redwater Energy Corporation (Re), 2016 ABQB 278 ("Redwater"). The Honourable Chief Justice Wittmann found that, in the bankruptcy context, an operational conflict existed between the federal Bankruptcy and Insolvency Act ("BIA") and Alberta's Oil and Gas Conservation Act ("OGCA") and the Pipeline Act ("PA") with respect to certain rights of trustees and receivers of licensees regulated by the Alberta Energy Regulator ("AER"). Pursuant to the paramountcy doctrine, the BIA prevailed. The Court confirmed that receivers and trustees of licensees in bankruptcy are permitted under the BIA to renounce licensed assets, to avoid the monetary environmental obligations of those assets, and that the AER and the Orphan Well Association ("OWA") do not have priority over all other creditors of a bankrupt licensee. While an appeal is expected, Redwater arguably raised more questions than it resolved, and in particular, where do stakeholders go from here?
Redwater Energy Corporation ("Redwater") was a publically listed oil and gas corporation with a secured debt owing to the Alberta Treasury Branches ("ATB"). Redwater had a number of AER-licensed properties in Alberta. It defaulted on its debts to ATB and, in May 2015, Grant Thornton Limited ("GTL") was appointed receiver of Redwater under the BIA and a Receivership Order. The AER was notified of GTL's appointment and demanded written confirmation from GTL that GTL had taken possession and control of all of Redwater's assets. In July 2015, GTL as receiver disclaimed 107 out of 127 AER-licensed assets. In effect, GTL only took possession of Redwater's most valuable assets and disclaimed or renounced the rest which were the non-producing wells and facilities (the "Renounced Licensed Assets"). The value of the Renounced Licensed Assets was less than the costs that will be incurred to meet their end of life environmental obligations. The AER responded to GTL's disclaimer with Abandonment Orders issued in July and August 2015 in respect of the Renounced Licensed Assets. In October 2015, Redwater was assigned into bankruptcy under the BIA and GTL was appointed trustee of Redwater's estate. In November 2015, GTL also disclaimed the Renounced Licensed Assets in its capacity as trustee and proposed a sale of only the valuable assets.
Under section 24 of the OGCA and section 18 of the PA, the AER must approve the transfer of oil and gas well licences to another party. The AER would not approve a transfer where the transaction excluded non-producing assets unless conditions were imposed on such transfers. In effect, the AER could block a sale by withholding licences unless its transfer conditions were met, including posting of monetary security. Accordingly, the reality was that potential buyers were not inclined to buy non-producing wells, and in an insolvent context, the trustee would not be in a position to post such security or it would not make economic sense to do so.
The AER and the OWA jointly applied to the Court and sought a declaration that the disclaimer or renunciation by GTL as receiver of a portion of Redwater's assets was void and contrary to section 2 of the Receivership Order. They also sought an Order compelling the receiver to fulfil its statutory obligations as licensee in respect of abandonment, reclamation and remediation of all licensed assets of Redwater, including compliance with the Abandonment Orders issued by the AER in respect of the Renounced Licensed Assets. GTL brought a cross-application that sought, among other things, a dismissal of the AER and OWA application and the approval of the sale process to market and sell its chosen most valuable assets of Redwater. GTL also sought a declaration that the trustee was entitled to renounce the Renounced Licensed Assets.
The Main Issues
Chief Justice Wittmann considered, in the context of bankruptcy proceedings, several sub-issues under two main issues: (a) whether the receiver or trustee has the ability to disclaim property that is non-producing (in other words, whether the trustee can pick and choose realizable property); and (b) whether the AER as the provincial regulator can effectively re-order the BIA priority for abandonment and environmental liabilities in bankruptcy context through the approval of license transfers (in other words, whether a conflict existed between the provincial OGCA and PA, and the federal BIA).
Summary of the Decision
Following a thorough analysis of history and interpretation of the applicable legislative provisions, including the Constitution Act, 1867, the implication of legislative amendments following the Alberta Court of Appeal decision in PanAmericana de Bienesy Servicios SA v. Northern Badger Oil & Gas Ltd. (1991), (1991), ABCA 181 ("Northern Badger"), and recent case law on the paramountcy doctrine, Chief Justice Wittmann dismissed the applications of the AER and OWA and granted the trustee and receiver's application. The Court's key findings are as follows.
1. Right of Trustee or Receiver to Disclaim or Renounce: the trustee or receiver has the ability to renounce assets under section14.06 of the BIA. The purpose of section 14.06 of the BIA is to permit receivers and trustees to make "rational economic assessments of the costs of remedying environmental conditions, and gives receivers and trustees the discretion to determine whether to comply with orders to remediate property affected by these conditions." Parliament took into account environmental policy considerations when adopting this provision and chose to give a super-priority to the Crown or regulator only in limited circumstances. The super-priority applies only to the contaminated real property in question and any real property contiguous to it.
2. Paramountcy Doctrine: there is an operational conflict between section 14.06 of the federal BIA and the provincial OGCA and PA. Requiring the trustee and receiver to comply with the Abandonment Orders issued by the AER pursuant to the provincial legislation in relation to the Renounced Licensed Assets triggered the doctrine of federal paramountcy. Sections 1(1)(cc) of the OGCA and 1(1)(n) of the PA are inoperative to the extent that they conflict with the federal BIA. The Abandonment Orders issued by the AER pursuant to sections 1(1)(cc), 27, 29, 30 and 106 of the OGCA and sections 1(1)(n), 23, 25, 26, and 51 of the PA are inoperative to the extent that they have the effect of requiring the trustee to comply with or provide security deposits in respect of the Abandonment Orders regarding the Renounced Licensed Assets. Further, sections 24(1) and (2), and 106(3) of the OGCA, section 18(1) and (3) of the PA, and Article 6, Articles 4, 8 and 10 of Appendix 2 of Directive 006 are inoperative to the extent that they conflict with and frustrate the purpose of section 14.06 of the BIA. Applying the paramountcy test, the Court held:
b. Frustration of Legislative Purpose: (i) the definition of "licensee" under section1(1)(cc) of the OGCA and 1(1)(n) of the PA frustrated the purpose of sections 14.06(4),(6) and (7) of the BIA by requiring the trustee to comply with Abandonment Orders or provide a security deposit which effectively created a priority scheme in favour of the AER over all other creditors (including the receiver, trustee and other secured creditors); (ii) the definition of "licensee" frustrated sections 14.06(4)(a)(ii) and (4)(c) of the BIA as it prevented the trustee from renouncing licensed assets which provided no economic value to creditors and which could put a receiver or trustee at personal financial risk; (iii) the AER's requirement to pay security deposits and perform the Abandonment Orders as a condition precedent to approval to transfer licences frustrated the legislative purpose of sections 14.06(5)-(8) of the BIA by requiring the trustee to address those conditions prior to payment of fees and disbursements or any secured or unsecured creditors; and (iv) the AER's requirement to pay security deposits and perform the Abandonment Orders as a condition precedent to approval of license transfers frustrated the legislative purpose of sections 14.06(4) and (6) of the BIA by requiring the trustee to pay or rectify those conditions as costs of administration regardless of the fact that the assets to which the conditions relate had been renounced by GTL under section 14.06(4) of the BIA.
c. Effects of Northern Badger and Newfoundland and Labrador v AbitibiBowater Inc., 2012 SCC 67("AbitibiBowater"): it was conceded that if the provincial orders were purely regulatory, as opposed to monetary, then no conflict with the BIA arose. However, the issue was whether in this case the duty to abandon, remediate and reclaim was regulatory, and whether the AER was a creditor or regulatory enforcer. The Court characterized the substance of the provincial orders and held that while AbitibiBowater related to environmental orders, the Supreme Court of Canada did not endorse the principle that a regulator is not a creditor if it enforces a public duty. Further, environmental claims do not, per se, receive a higher priority. Had Parliament intended that the debtor must always satisfy all remediation costs, it would have granted the Crown a priority over all of the debtor's assets. It was conceded by the AER and the OWA that the first and second parts of the AbitibiBowater three-part test, to determine whether an environmental order was a monetary claim, were met. In respect of the third part, the Court held that the facts of this case met the test of sufficient certainty that the AER would perform the work by itself. Although not expressed in monetary terms the AER's orders were intrinsically financial, as the obligation to comply with the orders required payment of or the posting of security for the abandonment costs to the AER in priority to all other creditors.
Redwater was decided within the context of bankruptcy proceedings and an operational conflict was found between the provincial legislation and the federal BIA. Provisions similar to those in the BIA on these issues are contained in sections 11.8(5)-(9) of the Companies' Creditors Arrangement Act, RSC 1985, c C-36 ("CCAA"). Would similar conclusions be reached under the CCAA? A number of other questions remain. How far does the AER's super-priority on contiguous assets reach under section 14.06(7) of the BIA? Could it extend to producing valuable assets chosen by the receiver or trustee? What is the scope or test for contiguity?
The decision also raises public policy questions. Redwater adopted the statement of the Supreme Court of Canada in AbitibiBowater that "corporations may engage in activities that carry risks...[w]hen the risks materialize, the dire costs are borne by almost all stakeholders..."[paras. 42-43] [For more on stakeholders and their exposure in insolvency with respect to the AER's Licensee Liability Ratings ("LLR") see Licensee Liability Ratings and Stakeholder Exposure in Insolvency]. In Redwater, Chief Justice Wittmann acknowledged that public interest would be at stake if the licensee, who is also a part of the public, did not fulfil its environmental duties. However, the Court determined that since Parliament had balanced those considerations under the BIA, it would be up to Parliament to reassess and legislate, and not up to the Courts to "define policy" or "to weigh policy objectives." Of course the Alberta legislature may not have many choices in response to Redwater given federal jurisdiction over bankruptcy and insolvency. As acknowledged by Chief Justice Wittmann, Redwater is of significant and immediate importance to the energy industry, the financial industry, the Alberta public and various other stakeholders whose livelihoods are affected by the issues raised therein. Some of these implications are addressed below.
The Energy Industry
Redwater has confirmed that where a bankrupt is a 100% working interest participant, its disclaimed properties would end up in the already over-burdened and underfunded Orphan Well Program. In 2014/15, the OWA spent over $16 million on orphan abandonment and reclamation. The negative effect would be a cycle that makes more orphans and increases the orphan fund levy for licensees who manage to weather the current market situation and stay at 1.0 LMR or above. There would likely be continuous need for capital from lenders to be able to meet the various conditions of their licences. Where there are other working interest participants, they would likely be liable only to their own share of the environmental costs, still leaving the bankrupt licensee's share of the cost to the Orphan Fund.
The Lending Industry
It has been argued that the uncertainty that existed prior to Redwater had the potential to dramatically change commercial lending practices in Alberta by prohibiting access to capital. While Redwater favors the position of trustees and receivers and seems to have removed this uncertainty and its implication, it has not answered all the questions. As noted above, surviving licensee borrowers may see their annual Orphan Fund levy and other operating obligations significantly increased by the potential increase in number of wells and facilities that would likely be handed over to the OWA. There may be a "Catch 22" effect for lenders.
Principals of Bankrupts
Redwater provided no comfort to directors and officers of bankrupts who were in control of a corporation at the time of the AER Orders and contraventions of those Orders, especially given the April 8, 2016 AER Bulletin 2016-10 - Obligations of Licensees When in Insolvency or When Otherwise Ceasing Operations [discussed in AER Reminds Licensees of Certain Obligations when Ceasing Operations]. The AER could increase the use of its powers under section 106 of the OGCA to name individuals to deter the use of bankruptcy or insolvency as a way out for principals. While there is no direct monetary consequence to a named principal as a result of a section 106 declaration, if the named principal repays the debts to the AER/OWA and achieves compliance, he/she could file an application for review or to rescind the declaration. It is not clear whether the directors' and officers' liability insurance will come into play in such situations, which may have a rippling effect to the insurance industry. The AER may also decide to employ its powers under the Environmental Protection and Enhancement Act, RSA 2000, c E-12.
The Regulator and the Public
The positive impact of Redwater is that it avoids putting producing oil and gas assets prematurely into the Orphan Well Program as could occur where LMR ratings of below 1.0 result in hampering asset dispositions that could otherwise alleviate financial distress. Rather, producing assets would be in the hands of prospective purchasers who would see to future royalties, surface lease payments, mineral tax payments, property tax payments, and sustained employment in a depressed oil and gas market. On the negative side, Redwater is a factor that may encourage more receiverships and bankruptcies in the right market. Any increase in receiverships and bankruptcies would, on a balance, likely increase the inventory of orphan wells and facilities. In an extreme situation, the energy industry may no longer be able to fund the Orphan Fund and the Alberta public may have to pick up the environmental tab.
The Way Forward
In the Redwater proceedings, the Canadian Association of Petroleum Producers ("CAPP") argued that "if the Court accepts the Trustee's argument, the whole regime around the Orphan Well fund will need to be revisited and may even collapse." Given the impacts on the stakeholders, it appears that Redwater has not resolved the situation in Alberta. A new solution to the cycle may be required and it may be time for Alberta and all the stakeholders to go back to the drawing board as was done prior to the institution of the Abandonment Fund, the Orphan Fund and the LLR program. Some of the options to consider could include:
- Continue negotiated commercial solutions with the AER;
- The OWA or a new Crown corporation that could take over producing and disclaimed assets from distressed companies until potential purchasers are found or abandonment occurs in due course;
- A more flexible regime that would provide junior players easy access to assets in the possession of the OWA; and
- Overhaul of the LLR Program based on successful regimes in other jurisdictions.
BLG will continue to monitor the Redwater case as it inevitably moves its way through the appellate courts.
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.