As general economic trends since COVID continue to cause turmoil in the construction industry, the value of surety bonds as a performance and financial backstop has become increasingly apparent. While contractors may encounter difficult conditions in the course of their operations, sureties are not only well-capitalized and capable of weathering the storm but also, depending upon the relevant bond wording, are able to step in proactively when their principals experience financial troubles affecting the performance of the work and payment of the subcontractors.
However, a recent case has highlighted a nuance to this issue in circumstances where the principal has initiated formal insolvency proceedings. Specifically, in Re Earth Boring Co Ltd, 2025 ONSC 2422 ("Re Earth Boring"), the Court, in the context of insolvency proceedings under the Companies' Creditors Arrangement Act (the "CCAA"), ordered (at the request of the principal/insolvent) that calls on the contractor/principal's performance bonds be indefinitely prohibited without leave of the Court, or consent from the insolvent and the Monitor.
Below, we review the case and consider the potential broader implications.
Background
Earth Boring Co Limited ("EBCL"), Yarbridge Holdings Inc ("Yarbridge"), Trolan Investments Ltd ("Trolan") and Yarfield Services Limited ("Yarfield") (collectively, the "Applicants") were a group of companies collectively operating as a trenchless construction service provider in Ontario, with EBCL as the group's operating company.
EBCL, Yarfield and Pennbridge Holdings were also parties to a master surety agreement with the surety, pursuant to which the surety agreed to provide bonding for EBCL's projects in exchange for certain indemnities (as well as other standard rights under general indemnity agreements in the surety context).
At the time of the Court's decision in Re Earth Boring, the Applicants were working on over a dozen medium-to-large scale underground projects, valued collectively at about $32 million. However, liabilities exceeded the value of their assets by approximately $3 million, and as a result, the Applicants had insufficient funds to sustain their ongoing obligations.
Therefore, EBCL filed a Notice of Intention to File a Proposal pursuant to the Bankruptcy and Insolvency Act ("BIA"). The Applicants subsequently determined it was necessary to seek relief under the CCAA so as to be able to continue their business. The Applicants therefore applied (in relevant part) for an initial order under the CCAA.
As part of this application for an initial order, the Applicants sought the customary stay of proceedings; more unusually, though, the Applicants also sought a stay against calls on performance bonds related to EBCL's projects that were expected to continue during the CCAA proceedings (the "Continuing EBCL Projects"). The Applicants had eight bonded projects, four of which were Continuing EBCL Projects. The Proposed Monitor and the Bank of Montreal (who was both the proposed DIP lender and EBCL's senior secured lender) supported the application, while the surety did not oppose it. In such circumstances, securing the stay seemed likely.
The Superior Court's Decision
The Court granted the application, including within its order a stay of all calls on the performance bonds for the Continuing EBCL Projects (with exceptions where (1) leave of the Court was obtained or (2) the Applicants and the Monitor consented).
In relation to the stay of calls on the performance bonds, the Court provided a brief analysis founded on its broad discretion to make any order appropriate in the circumstances, the key criteria being whether the requested relief would "further the efforts to achieve the remedial purpose of the CCAA" and "avoid the economic and social losses resulting from liquidation of an insolvent company." In the past, this discretion has included temporary stays of third-party rights (e.g. co-tenants of the insolvent seeking to terminate their leases).
The Court accepted the Applicants' argument that such a stay was required in order to facilitate the completion of the Continuing EBCL Projects; absent this protection, obligees could call on the performance bonds, necessitating the surety's intervention in the Continuing EBCL Projects and thereby ostensibly interfering with the Applicants' ability to carry out this work. The Court also accepted the argument that any costs incurred by the surety in exercising its options under the bonds would interfere with the flow of project funds to the Applicants (presumably because the surety is entitled to the balance of contract funds, if it accepts liability).
Given that the proposed stay was supported by the Monitor, and given the surety's neutral position, the Court concluded that such a stay was appropriate in the circumstances.
Commentary
The Court's stay of calls on performance bonds in Re Earth Boring is an uncommon one and might seem, on its face, to limit access to performance security when it would ostensibly be most needed on a construction project (i.e. where the principal/contractor has become insolvent). That being said, when considered in its full context, Re Earth Boring offers a credible argument for why such a stay may be warranted in the right circumstances.
On the one hand, obligees may be dissatisfied with the result insofar as, from a short-term perspective, such a stay arguably removes the benefit that they bargained for in requiring a performance bond for the project in question (and indeed, paid the premiums for such bonds as part of the contract price). In that context, it might appear to an obligee that they have paid for no benefit. However, access to the performance bond is merely stayed, not precluded entirely; the commitment of the surety stands in the event that the Applicants' attempt to restructure its operations under the CCAA were to fail.
Significantly, it is unclear from a review of the Court's endorsement or the order itself whether the stay – which precluded any attempt to "enforce and/or call" on the performance bonds – would apply to pre-claim intervention, as the Court did not elaborate on what constitutes 'enforcing' or 'calling' on a bond. This is particularly relevant as it relates to pre-claim intervention, which arguably does not qualify as "enforcing or calling on" the bond (if those concepts are narrowly construed as referring to a pre-claim scenario). As readers are aware, newer bond forms specifically provide the obligee with a right to request a pre-claim meeting, which is intended to explore possible solutions to problems on the project before it becomes necessary to deliver a claim. Even absent such language, though, many sureties take a proactive approach to assisting their principal prior to bond claims arising.
Indeed, pre-claim intervention more generally can be of significant benefit in circumstances where a principal is experiencing financial difficulty, as surety claims personnel can assist in the identification of potential solutions to enable the principal to continue its work on hand without exacerbating its insolvency risk. Such an option may have been academic in Re Earth Boring insofar as the Applicants had already commenced CCAA proceedings, but on the other hand, leaving open the possibility of pre-claim intervention from the surety could bolster the prospects of a successful restructuring (although it is unclear how productive such an attempt could be in circumstances where the principal's other secured creditors are already seeking relief). In any event, further clarity on the scope of this aspect of the stay would be beneficial.
However, preventing calls on performance bonds – and thereby delaying surety intervention – could arguably be the more efficient and effective approach in circumstances where the principal still has operational capability (e.g. no loss of key personnel or capital equipment) and is experiencing difficulties that are purely financial in nature. In that scenario, DIP financing (as was the case in Re Earth Boring) would permit the principal to continue progressing its work on its projects, whether bonded or unbonded, consequently receiving more revenue to satisfy its creditors and protect its value as a going concern as it develops a restructuring plan. While this would be inappropriate in circumstances where the insolvent principal is patently unable to continue with its work, or has abandoned its projects, that does not appear to have been the case in Re Earth Boring.
Arguably, this approach could be equally beneficial to both the obligees and sureties, if implemented successfully. From the surety's perspective, such a stay precludes the need to expend time and resources on a bond claim investigation (in fairness, such cost would not necessarily be excessive in circumstances of a clear insolvency and abandonment – although the investigation would still need to confirm that the obligee had complied with all of their obligations under the bonded contract), as well as the need to re-tender or complete the project itself. Having said this, presumably the surety would wish to monitor the progress of the projects taking place under the protection of the stay, so as to remain apprised of the status of the bonded projects in case the restructuring fails. From the obligee's perspective, it is exceedingly rare for a re-tendering to result in anything other than an increased price and longer schedule for the remaining scope of work, such that maintaining the original contractor is not infrequently the most cost and time-effective option.
While the proper answer will necessarily depend on the facts of the case, it seems in Re Earth Boring that this approach may have been the most efficient one. Fundamentally, the ultimate issue is as to the success of the debtor's restructuring plan which, based on a review of the Court's endorsement and the fact that both the DIP lender/senior secured creditor and the Proposed Monitor supported the order, suggests a reasonable prospect of success. All of that being said, it is worth cautioning that this may not necessarily be true in every case; rather, there may be some instances in which the prospects of a successful restructuring are much lower, in which case a stay of performance bond claims may be the less efficient approach. Bearing that in mind, such a stay should not be sought or granted as a matter of course in every instance; rather, it warrants careful scrutiny in each case.
We await further developments in Re Earth Boring with interest.
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.
