Canada: Robust Information About Purchasers/Assignees May Be Required Before Contracts Will Be Assigned Under The CCAA

In Dundee Oil and Gas Limited (Re), 2018 ONSC 3678, Justice Dunphy provided some important guidance on information that should be provided to the court in support of a motion for an order assigning contracts pursuant to section 11.3 of the Companies' Creditors Arrangement Act, RSC 1985, c. C-36. Applicants should be providing detailed information about the financial and operational capacity of the proposed purchaser/assignee of the contracts to the court or they may risk an adjournment or outright dismissal of their motion.

Assignment of Contracts – Mandatory Requirements and Factors to be Considered

Section 11.3 of the CCAA provides the court with the discretion to make an order assigning the rights and obligations of the debtor company to another person – usually a purchaser of assets from the debtor company. In Nexient Learning Inc. (Re), 2009 CanLII 72037 (ON SC) ("Nexient") at para. 53, the order of the CCAA Court will generally authorize the assignment of the agreement and permanently stay termination of the agreement by the counterparty by reason of either the assignment or any insolvency defaults that arose in the context of the CCAA proceedings.

The following cannot be assigned pursuant to section 11.3 of the CCAA:

  1. rights and obligations that are not assignable by reason of their nature;
  2. an agreement entered into on or after the day on which CCAA proceedings were commenced;
  3. an eligible financial contract; and
  4. a collective agreement.

The following steps are mandatory before an agreement may be assigned pursuant to section 11.3 of the CCAA:

  • Every counterparty and the monitor must be given notice of the proposed assignment.
  • The court must be satisfied that all monetary defaults in relation to the agreement (other than those arising by reason only of the company's insolvency, the commencement of CCAA proceedings or the company's failure to perform a non-monetary obligation) will be cured by a specified date.

Section 11.3(3) of the CCAA provides a list of factors to be considered by the court in exercising its discretion to assign contracts of the debtor company:

  1. whether the monitor approved the proposed assignment;
  2. whether the person to whom the rights and obligations are to be assigned would be able to perform the obligations; and
  3. whether it would be appropriate to assign the rights and obligations to that person.

In addition to these statutory factors which the court is required to consider, courts have also considered the following factors in prior decisions:

  1. In Zayo Inc. v Primus Telecommunications Canada Inc., 2016 ONSC 5251 at para. 36, citing Ted Leroy Trucking (Century Services) Ltd., Re, 2010 SCC 60, the court considered whether the assignment and the conduct of the debtor company meets the baseline considerations of appropriateness, good faith and due diligence that a court should always bear in mind when exercising CCAA discretion;
  2. Whether the proposed assignment furthers the reorganization process;
  3. Whether the proposed assignment only adversely affects the counterparty's contractual rights to the extent absolutely required to further the reorganization process; and
  4. In Nexient at paras. 53-59, the court considered whether the proposed assignment entails an inappropriate imposition on the counterparty.

Background to Dundee Approval Motion

Dundee Oil and Gas Limited and Dundee Energy Limited Partnership (collectively, "Dundee") commenced proposal proceedings under the Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3 in August 2017 which were subsequently continued under the CCAA. Dundee and the monitor ran a sale solicitation process ("SSP") for all of the assets, undertakings and properties of Dundee.

Lagasco Inc. ("Lagasco") was selected as the successful bidder in the SSP, an asset purchase agreement was executed and Dundee brought a motion for an approval and vesting order and an order pursuant to section 11.3 of the CCAA assigning a number of contracts. Since Dundee's assets consisted primarily of a large number of petroleum and natural gas leases as well as associated equipment that were also leased or otherwise the subject of contractual arrangements between Dundee and the owner of the affected land, the assignment of contracts was a significant aspect of the proposed transaction and required in order for it to proceed.

High Level Information Initially Filed

In support of the motion, Dundee filed a short affidavit by the President and CEO of Lagasco Jane Lowie, which contained high level statements about Lagasco's ability to perform under the assigned contracts, such as:

  • Lagasco and its officers, directors and employees are highly experienced in the oil and gas industry.
  • Lagasco is affiliated with several leading oil and gas producers in Ontario which currently produce 400 barrels of oil equivalents per day and employ approximately 30 people.
  • At the time of closing of the transaction Lagasco will have sufficient funding to complete the transaction contemplated by the APA and to fund working capital required to continue [Dundee's] operations as a going concern.
  • [Dundee's] operations being acquired by Lagasco have been cash flow positive over the last year, which is forecasted to continue, leaving the acquired operations more or less self sustaining.
  • The operations being acquired by Lagasco are being restructured with anticipated future cost savings and efficiency gains.

When the motion first came before Justice Dunphy on May 23, 2018, he indicated that while he was satisfied with the necessity and advisability of the Lagasco transaction and the process leading up to it, he had concerns about assigning the contracts under section 11.3 of the CCAA. Justice Dunphy indicated that the applicant hadn't provided enough information on the expected financial stability of Lagasco post-closing to ensure the court that Lagasco would be able to meet its contractual obligations, particularly remediation or well-capping costs. The motion was adjourned until June 11, 2018 to permit the application to file additional information.

Detailed Information Subsequently Filed

Dundee filed a supplementary affidavit from Ms. Lowrie which provided more information in relation to the high level statements listed above by including:

  • A detailed description of the history, operations and structure of the Lagasco Group;
  • A summary of the relevant experience of each of the members of the senior management team of the Lagasco Group;
  • A description of the cash and debt facilities available to Lagasco to fund operations;
  • A post-closing cash flow statement for Lagasco prepared by Deloitte; and
  • A Statement of Oil and Gas Reserves prepared by Deloitte.

Detailed Information a Condition Precedent to Assignment of Contracts?

Armed with this additional information on the financial capabilities of the proposed purchaser, Justice Dunphy granted the assignment order at the second hearing. Importantly, Justice Dunphy stated that it is a fundamental condition precedent that the court be able to conclude that the assignee will be able to perform the obligations of the debtor company under the contracts before the court will approve an assignment under section 11.3 of the CCAA:

[27] Section 11.3 of the CCAA is an extraordinary power. It permits the court to require counterparties to an executory contract to accept future performance from somebody they never agreed to deal with. But for s. 11.3 of the CCAA, a counterparty in the unfortunate position of having a bankrupt or insolvent counterpart might at least console themselves with the thought of soon recovering their freedom to deal with the subject-matter of the contract. Unlike creditors, the counterparty subjected to a non-consensual assignment will be required to deal with the credit-risk of an assignee post-insolvency and potentially for a long time. Creditors, on the other hand, will generally be in a position to take their lumps and turn the page.

[28] Of course, insolvency is not always a catastrophe for such counterparties. Sometimes it is a godsend. Assets locked into long-term contracts at advantageous prices may be freed up to allow the counterparty to re-price to current market. In such cases, the creditors are at risk of seeing the debtor lose critical assets while the counterparty receives an unexpected windfall. The business and value of the debtor's assets may evaporate in the process – be it from one large contract lost or many smaller ones.

[29] Bankruptcy and insolvency always involves a balancing of a number of such competing interests. Creditors, contract counterparties - all of these have rights arising under agreements with the debtor that are either actually compromised or at risk of being compromised by insolvency. The CCAA and BIA regimes are predicated on facilitating a pragmatic approach to minimize the damage arising from insolvency more than they are concerned to advance the interests of one stakeholder over another.

[30] It seems to me that a fundamental condition precedent to requiring a contract counterpart to be locked into an involuntary assignment post-insolvency is that the court sanctioning the assignment is able to conclude that the assignee will, in the words of s. 11.3(3)(b) of the CCAA, "be able to perform the obligations". This does not imply iron-clad guarantees. It does not give license to the counterparty to demand the receipt of financial covenants or assurances that it did not previously enjoy under the contract it originally negotiated with the debtor.

While Justice Dunphy stated that he had some concern given that Lagasco was largely a shell company and substantially all of the purchase price would be debt financed, the following facts were accepted by His Honour as being sufficient to demonstrate the post-close capacity of Lagasco to meet its obligations under the contracts to be assigned:

  • Dundee's cash flow from operations had been positive – its insolvency was not a result of operating losses;
  • The forecasts indicated that cash flow from operations would continue to be positive;
  • Lagasco had a plan to reduce operating costs to provide a further cushion and a level of institutional experience to make that plan credible;
  • Ontario's regulatory model requires the building of reserves to satisfy capping costs throughout the life of a well and the expenses to build these statutory reserves were contemplated in the cash flow forecasts; and
  • No counterparties whose contracts were being assigned had opposed the motion.

Takeaways: Robust Information on Purchasers Should be Provided

As noted by the Court in Veris Gold Corp. (Re), 2015 BCSC 1204 at para. 58, the "twin goals" of section 11.3 of the CCAA are to assist the reorganization process while also treating the counterparty fairly and equally. It is tempting for debtor companies and purchasers to focus on the former – which is the positive story about why the transaction is a good outcome for the debtor company and/or its creditors – at the expense of the latter – which is a more mixed story about why the transaction isn't so bad for counterparties. In light of the comments in Dundee, doing so risks an adjournment and delays in closing the transaction, or even at outright refusal to authorize the assignment of contracts.

While the language of section 11.3 of the CCAA suggests that the ability of the purchaser to perform the debtor company's obligations under the contracts to be assigned is just one of the factors that the court is required to consider when deciding whether to exercise its discretion and approve the assignment, Dundee strongly suggests that this is a necessary precondition that must be satisfied before such an order will be granted going forward.

Parties would be well advised to include detailed affidavit evidence about the structure and expertise of the purchaser, its assets, cash flow and financing sources and whether the assignment of contracts is opposed by any of the counterparties. This is especially true where the proposed purchaser/assignee is a shell corporation set up for the purposes of the transaction.

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