Connacher Oil and Gas Limited (“Connacher”) recently applied to the Court of Queen’s Bench of Alberta (the “Court”) for approval of a plan of arrangement pursuant to section 192 of the Canada Business Corporations Act (“CBCA”). In this unreported decision, Justice Jones of the Court limited the use of CBCA for debt restructurings to situations where the entity emerging from the plan of arrangement is solvent.
Connacher is a Calgary-based in situ oil sands developer, producer and marketer of bitumen. Connacher’s main debt obligations were a US$128.4 million first lien credit agreement (the “First Lien Credit Agreement”) and US$550 million and C$350 million senior secured second lien notes (the “Second Lien Notes”). To solve its liquidity problems caused by low oil prices, Connacher sought to implement a plan of arrangement (the “Plan”) under the CBCA, pursuant to which the Second Lien Notes would be exchanged for common shares of Connacher, and C$35 million of new second lien convertible notes would be issued. Connacher submitted that the Plan would reduce its debt by approximately C$1 billion and annual interest costs by about C$80 million. Under the Plan, Connacher and 9171665 Canada Ltd. (“ArrangeCo”) were to amalgamate and emerge as a new corporation.
Under the CBCA plan of arrangement provisions, applicants first seek an interim order from a court to permit a meeting and vote on the proposed plan of arrangement by the affected parties. If the vote is successful, the applicant corporation then seeks a final order to approve the plan of arrangement.
On February 20, 2015, Connacher and ArrangeCo successfully obtained an interim order allowing Connacher to hold a vote of its shareholders and the holders of the Second Lien Notes on the Plan, as they were affected by the Plan. The lenders under the First Lien Credit Agreement (the “First Lien Lenders”) were not given a chance to vote on the Plan as their rights were purportedly not affected by the Plan. On March 30, 2015, the Plan was voted upon and approved by the requisite majority of the shareholders of Connacher and the holders of the Second Lien Notes.
On February 2, 2015, prior to obtaining the interim order and in anticipation of the restructuring of the Second Lien Notes, Connacher did not pay the interest then due on the Second Lien Notes. Consequently, after the interim order had been granted, the First Lien Lenders sued Connacher in the State of New York, the governing jurisdiction of the First Lien Credit Agreement, claiming that such failure to pay interest triggered a cross-default under the First Lien Credit Agreement (the “New York Action”). Connacher denied this claim, arguing that such failure to pay interest was part of a “permitted second lien note restructuring” permitted under the First Lien Credit Agreement, and therefore, an event of default had not been triggered. A finding of default under the First Lien Credit Agreement would have made the principal outstanding thereunder forthwith due and payable.
On April 2, 2015, Connacher and ArrangeCo brought an application for final order seeking approval of the Plan (the “Application”). Until this time, the New York Action had not been decided upon. To obtain a final order under the CBCA for approval of a plan of arrangement, an applicant must prove that:
(1) the statutory requirements have been fulfilled;
(2) the arrangement is put forward in good faith; and
(3) the arrangement is fair and reasonable.
One of the statutory requirements is that the applicant must be solvent. In previous cases involving an applicant in financial difficulty, this requirement had been satisfied if there were multiple applicants and at least one applicant was solvent. Relying on this caselaw, Connacher argued that the solvency requirement had been met as ArrangeCo, a co-applicant, was a solvent entity. The novel issue in this case, however, was that the amalgamated entity emerging after implementation of the Plan might have been insolvent due to the New York Action.
Justice Jones stated that the threshold issue in the Application was whether the Court had the jurisdiction to issue a final order under the CBCA when the entity emerging from the arrangement will or might be insolvent. Justice Jones held that in order to grant a final order under the CBCA to approve a plan of arrangement, the Court must be satisfied that the entity emerging from the plan of arrangement will be solvent. He held that restructurings which effect a compromise of debt holder claims against insolvent corporations are properly conducted under the provisions of applicable insolvency law, as opposed to the CBCA. As such, the Application was denied because, until the New York Action was resolved, it could not be determined whether or not Connacher would emerge from the Plan as a solvent entity.
Connacher sought to overcome the concern over its solvency after implementation of the Plan posed by the New York Action by asking the Court to waive the default alleged in the New York Action. To support this argument, Connacher relied on the Court’s broad jurisdiction under the CBCA to make any final order it thinks fit. Justice Jones, however, denied this argument, holding that “a no-default order should be limited to circumstances involving corporations which do not, at that point in time, require the order to assert non-insolvency in reference to alleged events of default which may have already taken place.” Further, while a stay or a no-default order may be issued to maintain the status quo, the status quo should not easily extend to circumstances in which a claim has been advanced based on an alleged existing default.
The Court also denied the Application because the Plan was held to be unfair and unreasonable. Although the Plan would have adversely affected the legal and economic rights of the First Lien Lenders by compromising their right to enforce the First Lien Credit Agreement and impeding their rights of recovery, they were not allowed to vote on the Plan. Further, Justice Jones was “hesitant to use the provisions of section 192 of the CBCA directed at restructuring to potentially affect the resolution of the rights of parties to significant contracts affecting an applicant which are the subject of a present action in another jurisdiction which Connacher appears to have attorned to.” Justice Jones was also concerned with the impact of approving the Plan on lenders, particularly foreign lenders, if their rights were compromised or nullified by a CBCA court even though they did not get to vote on the plan of arrangement.
To further support his conclusion that the Plan was unreasonable, Justice Jones held that the Plan did not have any valid business purpose. While implementation of the Plan would buy Connacher some time, Justice Jones was not satisfied that Connacher would remain a going concern for long absent an increase in oil prices and an improvement in the exchange rate between Canadian and U.S. currencies.
For the above reasons, the Application was denied. Subsequently, Connacher and the First Lien Lenders reached a settlement under which the First Lien Lenders withdrew the New York Action and the Plan was amended to reflect the terms of the settlement. On April 23, 2015, Justice Jones granted a final order for an amended plan of arrangement which was brought on a consensual basis.
In this significant decision, the Court has placed two important limitations on the use of CBCA for debt restructurings. First, the entity emerging from the plan of arrangement must be solvent. If this is not the case, resort to applicable insolvency legislation, as opposed to CBCA, is appropriate. Second, no-default orders cannot be granted to deem-away the event(s) of default which underlie the determination of whether or not the entity emerging from the plan of arrangement will be solvent.