Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce
Issue 25 - Evidence, September 25, 2003
OTTAWA, Thursday, September 25, 2003
The Standing Senate Committee on Banking, Trade and Commerce met this day at 11:05 a.m. to examine the administration and operation of the Bankruptcy and Insolvency Act and the Companies' Creditors Arrangement Act.
Senator Richard H. Kroft (Chairman) in the Chair.
[English]
The Chairman: I call the meeting to order. This morning, we will hear from a panel of witnesses that will discuss a wide range of issues.
First, we will hear from Mr. David Baird of Toronto. Mr. Baird, I understand that at one time you acted as counsel to this committee.
David E. Baird, Q.C., Counsel, Torys LLP: Yes, from 1975-80, I was the counsel to the committee when two new bankruptcy acts were being considered.
The Chairman: We will also hear from Mr. Max Mendelsohn and Mr. Jean-Claude Delorme.
Mr.. Baird, please proceed, after which we will hear from Mr. Mendelsohn.
Mr. Baird: I have been practising bankruptcy law for almost 44 years and during that time I have been active in bankruptcy law reform. In addition to working with this Senate committee, I was a member of the Colter Committee in 1985-86 when it presented a report on amendments to the Bankruptcy Act. Most of those amendments were implemented in 1992. I was subsequently a member of the Bankruptcy and Insolvency Advisory Committee when it considered further amendments to the Bankruptcy Act in 1997. However, the reform process never ends and further reforms of our bankruptcy and insolvency legislation are required to keep that legislation efficient and effective.
I am pleased that I have been given the honour of being a Fellow of the Insolvency Institute of Canada. Mr. Goldstein, your counsel, also shares this honour.
I have presented a short brief for you. Unfortunately, in the time available to me I could not translate it into French and for that, I apologize.
I will review the important need to revise both the Bankruptcy and Insolvency Act and the CCAA to protect licensees of intellectual property when the licensor is insolvent. I will deal with the introduction of UNCITRAL model law into Canada. I will talk about the need to abolish the hopelessly outdated tariff of costs, which is part of the bankruptcy rules as the tariff governing payment of lawyers for legal services rendered to a trustee in bankruptcy. I will also speak to a pet topic of mine, although I do recognize that it is not part of the order of reference.
I should like to have a brief discussion involving the Winding-up and Restructuring Act. This act is needed for the restructuring of financial institutions. It has not been overhauled for over 100 years and is clearly in need of review and improvement.
During the last 15 years there has been an extensive debate as to whether a trustee in bankruptcy has the right to disclaim or terminate a licence that the bankrupt had given to a licensee. For example, and this is not a likely example, if Microsoft licensed a Windows program to you and Microsoft went bankrupt, the issue is whether that trustee in bankruptcy could cancel your licence, stop you from using the Windows program and then sell the Windows program to someone else or tell you that you had to pay double the annual licence fee for using Windows.
There has been a debate in Canada whether a trustee could undertake that type of conduct in bankruptcy. That question has been answered and the answer is "yes."
Under current Canadian law, an insolvent licensor appears to be able to terminate a licence. That was a decision of Mr. Justice Farley in the recent Eaton's case regarding the use of a Eaton's logo by the finance company that was financing its credit cards.
Sears offered to buy the shares of Eaton's. One of the conditions of that offer was that the existing finance company could no longer use the Eaton's logo or be involved in financing Eaton's credit cards. Eaton's terminated the licensing arrangement with the credit card company. Eaton's appealed that decision.
Mr. Justice Farley held that Eaton's had a right to terminate the licence contract under the CCAA. His decision was similar to a decision in the United States in the Lubrizol case. There are specific provisions in the United States Bankruptcy Code to permit the termination or disclaimer of executory contracts. A licensing agreement is an executory contract because it is a contract where both parties still have material obligations under the contract. It is an ongoing contract.
In the Lubrizol case, the Federal Appellate Court upheld the right of the trustee in bankruptcy to terminate the licensing arrangement. This caused extreme shock waves throughout the United States because licensees were then vulnerable to having their licences terminated during a bankruptcy. The United States Congress acted very quickly and amended the Bankruptcy Act to provide that when there is a trustee in bankruptcy of a licensor the licensee who wants to use the licence can continue to use the licence notwithstanding the bankruptcy. The licensee has an option of either accepting a rejection of the licensing agreement and saying, "I will file a claim for damages," or saying, "I want to continue using the licence agreement, and I will continue to make the necessary payments."
That is the law in the United States. It is my recommendation that we should amend our Canadian Bankruptcy Act to provide the same rights for a licensee in Canada.
This is very important for companies developing technology in Canada. A buyer of a licence from a Canadian developer of technology is subject to the risk of having that licence terminated in the event of bankruptcy, but a buyer of a licence from a U.S. developer of technology is not. As a result, Canadian technology companies are at a big disadvantage.
It is even more difficult when the company is a start-up company because it does not have a past history of success. It is very hard to break into the market. In some circumstances, it is necessary to incorporate a U.S. subsidiary, have the licence agreement go to the U.S. subsidiary and then back from the U.S. subsidiary to the ultimate customer to get around the current weakness in the Canadian law.
It is an important amendment. It is an amendment that I understand was supported by the organization that appeared before you yesterday. It is something that I would like to see introduced into law quickly rather than waiting for a wholesale revision to the Bankruptcy Act. The revisions that we expect to be coming forward will take several years. This weakness in the law is causing problems.
I do not think that there is any controversy on this issue. I have not heard of any opposition to it. We should move forward quickly on this. I would recommend a quick amendment in that area.
What happens when a holder of a licence, a licensee, goes bankrupt? Most licence agreements provide that in the event of a bankruptcy of a the licensee, the licensor can terminate the licence and give it to someone else.
This makes it very difficult for a trustee in bankruptcy of the licensee to sell that licence. It might be a valuable licence. It reduces the recovery for the unsecured creditors and may give the licensor a windfall because it is only the bankruptcy that has given them the right to terminate the licence. The payments will be continued. The licensee can be honouring all the terms of the contract but, because of the bankruptcy, the licensor is given a windfall by being able to terminate the licence and sell it to someone else.
I believe that is wrong. The law should remove any right of the licensor to use an ipso facto clause of insolvency termination clause to terminate a licence.
This is similar to the situation dealing with landlord and tenant leases. Most provincial statutes prevent a landlord from terminating a lease, even though the tenant goes bankrupt. That gives protection to a trustee in bankruptcy. The trustee in bankruptcy is able to assign the lease and possibly recover money for the creditors.
It is really an anti-windfall recommendation. I see no reason why a licensor or a landlord should benefit from being able to terminate a lease or a licence and renegotiating it on better terms.
The Chairman: Mr. Baird, in many licence situations there is some degree of ongoing support required by the licensor to the licensee in order to make the licence effective, whether it is updating of something or continued protection.
What is the position if some kind of support is required?
Mr. Baird: My understanding of the United States practice is that their contracts traditionally provide a requirement to give some of the source code to the licensee so that the licensee can continue to use the licence. It is not normal to require the licensor, or the trustee in bankruptcy, to continue to provide the support. That is not normally required.
The Chairman: There is no remedy in the hand of the licensee to make the license meaningful?
Mr. Baird: No. If you need support from the bankrupt, then you are in trouble. If you do not need the support, then you are entitled to use the licence and carry on and continue making the payments.
The Chairman: Thank you and I am sorry to interrupt.
Mr. Baird: No, that is a good question. It is a problem. The solution that I am recommending does not solve all the licensees' problems, because there is no way a trustee in bankruptcy should or could be required to continue to service a licensing agreement. That would be unrealistic.
The next topic I would like to discuss is the introduction of the UNCITRAL model law into Canada. The basic purpose of the UNCITRAL law is to provide for cooperation between the courts and other authorities, provide greater legal certainty for trade and investment, a fair and efficient administration of cross-border insolvencies and to protect and maximize the value of the debtors assets. These are all very good objectives, but there are a number of problems involving the model law that have not been resolved.
As you may know, it is a relatively simple, short law, but it does not deal with many of the key issues that are needed to effect or implement the purposes for which the model law has been adopted. Problems arise as a result. It is the old saying: "The devil is in the details."
The model law does not provide what rights creditors will have to ensure that their positions are recognized. It does not stipulate what treatment will be accorded to creditors entitled to priority under the Canadian law. It does not provide as to what law will be applied to determine the rights of secured creditors. It does not say which court will be adjudicating on the rights of Canadian creditors. I suspect it will be the foreign court. What law will be applied? We do not know.
The foreign representative will have its place of business in a foreign state. How difficult will it be for creditors to appear before that court? If an order is made transferring the assets out of Canada, the Canadian creditors are left with no recourse in Canada in the event that the foreign jurisdiction fails to treat all creditors fairly, or does not proceed quickly. Unfortunately, many insolvency proceedings in other countries take an extended period of time, are not handled as quickly and with such dispatch as in Canada, and are subject to the whims of the foreign procedure.
Another major weakness in the model law is that it makes no attempt to deal with problems relating to transnational enterprises, for example, different companies owned by one holding company but carrying on business in different countries.
There is also a problem with expense. If Canadian creditors want to appear in a foreign jurisdiction, they must travel there and employ foreign legal counsel, and all this for transactions that were entered into in Canada by two parties that were carrying on business in Canada.
Is it worth it? Are these problems worth the greater certainty, et cetera? One of the interesting problems we have vis-à-vis the United States is that the United States Chapter 11 applies to solvent companies as well as insolvent companies. Canadian insolvency law, the Bankruptcy Act, and the Companies' Creditors Arrangement Act, only apply to insolvent companies. On occasion, the courts have recognized foreign proceedings against a solvent Canadian company. This is a recent decision of Mr. Justice Farley in the case of Babcock & Wilcox. When we introduced Part III of the BIA, in my view it was never intended to give the court in Canada the right to affect a solvent company in Canada. In the Babcock & Wilcox case, the American company was operating under Chapter 11; the Canadian company was not insolvent, but nevertheless the Canadian courts recognized the foreign proceedings and affected the Canadian company accordingly.
It is a difficult question, namely: How do you deal with multinational companies? You may have read in the paper this week that an order was made involving Philip Services Corp. It is a classic case dealing with a cross-border situation. It highlights all of the problems that arise, and problems about which we have worried.
The history of Philip Services Corp. is that it started as a small scrap dealer many years ago in Hamilton. Ultimately, it expanded throughout Canada and into the United States and Mexico. It ran into financial difficulties about two years ago, and was restructured there, using a joint plan of arrangement under the American Chapter 11 and the Canadian Companies' Creditors Arrangement Act. However, the prime jurisdiction for dealing with the issues involving the plan was the United States, even though the head office of the company was in Canada. Why was that was the prime jurisdiction?
Senator Oliver: Most the assets were in the U.S.
Mr. Baird: They were. That was one of the reasons. However, a second, very important reason was the fact that there were a number of what we classify as equity claims, claims arising out of the fact that there was a distribution of shares, and shareholders who bought the shares complained about disclosure. I do not know the specifics, but there were a lot of claims arising as a result of transactions involving shares.
In American law, any claims that arise out of share transactions are subordinated to regular trade debt and other debt. We have a different classification for equity claims. Therefore, they wanted to use American law so that trade creditors and other creditors did not share equally with the equity claims. This has been an important factor in the jurisdiction that has handled Canadian insolvencies. My understanding is that similar problems arose in Laidlaw and in Loewen. The failure of the Canadian law to subordinate equity claims has resulted in several cross-multinational companies being administered in the United States rather than in Canada, although their head office was located in Canada.
It is my recommendation that we should make it a level playing field. We should have the similar provisions in Canada that equity claims are subordinate to other trade debt and other debt. Otherwise, you will see more and more reorganizations conducted under U.S. law, because Canadian creditors would rather see their position enhanced under U.S. law than have a proceeding in Canada. This is a remedy that has been recommended by the joint task force of the Insolvency Institute of Canada and the Canadian Association of Insolvency and Restructuring Professionals.
Once more, it would create a level playing field. I do not think there is any opposition in Canada to this type of amendment. It has been a drain of restructuring into the U.S. as a result of not having this provision in our law.
Philip Services Corp., as I have indicated, has roughly 90 per cent of its assets in the United States. The specifics are set out in the material I have given to you. They have 120 locations in North America, 37 in Canada; 5,500 employees overall, 1,390 in Canada; 20 per cent of the consolidated assets in Canada, 10 per cent of the consolidated revenue in Canada. U.S. trade creditors are US $78 million; Canadian trade creditors are CDN $8.9 million.
Philip U.S. and its entities have considerable funded debt, which has been guaranteed by the Canadian subsidiaries assets, which have been pledged in support of that guarantee.
How should this company, which is now insolvent again, be administered? We are considering these issues today. It is a model case for outlining such issues.
On June 2, there was a filing in the U.S. Chapter 11 proceedings for the U.S. holding company and other U.S. subsidiaries. After the filing, and possibly before the filing, there was a joint marketing effort in favour of both the Canadian assets and the U.S. assets.
On August 4, the United States Bankruptcy Court granted debtor in protection, or DIP, funding of $34 million. I am aware that this committee has discussed the DIP. They also approved a bid process order because, during the marketing effort, a bidder or a buyer was found. The bid came forward and the U.S. court authorized a bid process, which involved asking for other parties to put their bids in competition with the investor's bid. This is a practice that has arisen in the United States and that we have not used much in Canada. I am not certain how often we have used it, if at all. However, it is the "stalking horse" concept that is designed to be fair. The company finds a bidder and then other parties are given a chance to compete against that bid so that the creditors are satisfied that everyone will receive the highest price.
They followed through with the bid process in this instance and an auction was conducted in early September 2003. As a result of the bid competition process, the investor, who reserved the right to top any bid that came forward, increased his bid. On September 12, the U.S. Bankruptcy Court approved a plan of arrangement involving the revised bid from the investor. However, it was a condition of the U.S. plan that the Canadian assets be restructured as well on terms that were satisfactory to the U.S. bidder. There had been no Canadian legal proceedings until that time because the Canadian creditors had not been involved in any of this process in the U.S. Ernst & Young were retained by the first secured lender against the Canadian assets to act as its consultant and had been involved in monitoring the bid process.
What happened? In Canada, the hearing was held on September 19 and the judge signed the order on September 22. An application was made to recognize the U.S. proceedings, and there is nothing wrong with that. It is accepted that U.S. proceedings should be recognized.
However, they asked that an order be made under section 47(1) of the Bankruptcy and Insolvency Act to appoint Ernst & Young as interim receiver without security of certain assets, property and undertaking of Philip Canada. They also asked for an order authorizing and directing the interim receiver to assist with and facilitate any restructuring or purchase and sale transaction involving the Canadian company or their assets, property and undertaking, but excluding some certain assets, in concert with the U.S. bankruptcy proceedings. They also asked for an order to stay proceedings in respect of Philip Canada.
That application was made and the order was granted. I have no personal knowledge of this case but I read the order, which is on file. Canadian creditors were not involved in the court application. The court has now authorized Ernst & Young to sell Canadian assets and to facilitate the U.S. restructuring plan.
The question for all is: Is this the way in which multinational restructurings should be conducted? Should the proceedings be finalized in the United States and then rubber-stamped in Canada afterward? Should there be input by the Canadian court early in the proceedings? Should there be an opportunity for Canadian creditors to become involved? What rights of subrogation are there to Canadian creditors? I don't know. This is a relatively standard current practice for multinational restructurings, although the appointment of interim receiver is a bit of a surprise. Frequently, a monitor is appointed and not an interim receiver. That is the way it works, until we devise a more detailed scheme for dealing with multi-national restructurings.
The entire restructuring is conducted in the United States under the auspices of the United States courts and the Canadian creditors, who represent roughly 20 per cent of the assets, do not appear to have been consulted. I am only speaking from the public record and I have no actual knowledge of what went on behind the scenes, although this approach does not surprise me.
I am concerned that the model law will continue this kind of practice. Right now, we have a law that permits what happened in the Philip Services case but the model law goes farther. The model law gives the court the power to entrust the administration of realization of all or part of the debtor's assets to the foreign representative or other person designated by the court, and to entrust the distribution of all or part of the debtor's assets located in the local jurisdiction to the foreign representative, provided the court is satisfied that interests of the creditors and local states are adequately protected.
We do not know what "adequate protection" means and no one has told us. It would be up to the individual court to make that interpretation for decision.
In the Philips Services case, the judge has been put in a difficult position. There is a multi-million dollar restructuring process that has found a willing buyer. Everyone says that it is the best deal available. What is the Canadian judge expected to do? Is he expected to refuse to adopt the U.S. proceedings? Does the judge want to start all over again in Canada, which will affect the creditors? These are difficult questions in respect of the powers that Canadian courts could assert in such a situation.
In this case, it was pretty clear that the Canadian court basically rubber-stamped the U.S. proceedings. However, that may be the right answer. Should it be the right answer? That is a question I leave with you, honourable senators.
The other area I mentioned briefly was the outmoded tariff of legal costs. Right now, if you use the legal tariff, a lawyer receives $1 for preparing a letter and $6 for filing a petition in bankruptcy. Both the Ontario and the Quebec courts have said that the tariff is outmoded and so they have ignored it. Why have it in the act at all? It should be abolished.
There is also a question of whether to have a national tariff. I am not recommending such a thing. There are different levels of legal costs throughout the country and a national tariff would not be appropriate, depending on the jurisdiction where the legal services are performed. I would leave it to the individual provinces to set the rules and for the lawyers to be paid in accordance with the tariffs and practices that they use for other civil work.
That is basically what is happening now even though the law says differently. The courts, when they tax an account, look at the local rates rather than the tariff.
The last formal topic with which I want to deal today are the amendments to the Winding-up and Restructuring Act. I am told that I am blowing in the wind.
This act has been neglected. It is an important statute. It is one that is used to wind-up banks. We have not seen a bank problem since the 1980s.
It is used to wind-up insurance companies. The most recent problem with an insurance company was Confederation Life. Fortunately, we have not had many recent problems so everyone has forgotten about the Winding-up and Restructuring Act because it is not current in their minds, but it has major problems.
The Chairman: Mr. Baird, I have to intervene. We do not have the Winding-up and Restructuring Act in our mandated reference. It is not that we are not interested in what you have to say about it. I would be happy for you to sort of express your concerns and leave a brief message on the record on the subject. However, we are not empowered to do anything in regard to that piece of legislation.
That will be another task for another day. I do not want to stop you. If you want to sort of signal the message to us for the record, please do that.
Mr. Baird: I definitely do. I knew that it was not on your order of reference, Mr. Chairman. I definitely hope that one of your projects will be to look at the Winding-up and Restructuring Act, but there are no restructuring provisions in the act, which is one of our major concerns.
We can improve the recovery for insurance companies and for other financial institutions, if we put effective restructuring provisions in the act. It is costing Canadian policyholders' money because we do not have an effective restructuring provision in the Winding-up and Restructuring Act.
That is the message I would like to put on the record, Mr. Chairman.
The Chairman: Thank you very much.
Mr. Max Mendelsohn, Chairman of the Firm and Head of the Reorganizations & Insolvency Group of Mendelsohn, G.P.: Thank you, honourable senators, for this opportunity to address you. I was here last on the occasion of the 1997 amendments to the Bankruptcy and Insolvency Act and the CCAA. I was here as representative of Industry Canada. Today, I am here as representative of myself. It may be that some of the things that I suggest will be, as Mr. Baird said with respect to the Winding-up and Restructuring Act, blowing in the wind.
I would like to address some of the comments made by Mr. Baird because I find myself to be substantially in agreement with him on various areas.
I would like to expand on the issue of the subordination of equity claims. The lack of provision for the subordination of such claims is rendering Canada somewhat irrelevant in certain insolvency proceedings, which otherwise would not be the case.
It is needed that not only the claims be subordinated but that they be disenfranchised. In a plan of reorganization, if those claims are subordinated and if there are insufficient assets to bring any value to those claims, then they should be denied a right to vote on a plan. If they are given the right to vote and if they are to receive no proceeds, then they are given undue leverage, and really would not have solved the problem. It is a question of both subordination and disenfranchisement.
I would like to address some broad themes where our insolvency and reorganization system may be a little too timid. Our system needs to create a uniform system to give enterprises a chance to be restructured if they can be made viable, whether through the existing entity or through another entity. If they cannot be restructured, we should allow the assets to be disposed of in the most effective manner.
I suggest we are missing a few areas in this regard. We do not adequately address how to deal with executory contracts. Mr. Baird, rightly, has brought up the specific case of licensing arrangements, which is an important example but not the sole example of executory contracts.
Under the CCAA, where the law is scant and a judge-made law, there has developed a very general doctrine whereby reorganizing entities have the ability to renounce executory contracts, as they should, with appropriate judicial supervision.
Under the Bankruptcy and Insolvency Act, which has restructuring provisions, the only category of contract that can be renounced is a commercial lease of real estate where the reorganizing entity is the lessee. There is an elaborate system of rules for how that works, but there is no provision for the renunciation of other categories of contracts. You cannot have a regime that works well at restructuring entities where all that can be addressed is existing-accrued debt but not ongoing obligations, which is what we have in the BIA.
I will suggest later that there are many disconnects between the BIA and the CCAA where, perhaps, the philosophy that underlies both should be the same.
The subject of executory contracts is an important area. It extends beyond reorganization. It should flow into bankruptcy. Again as Mr. Baird pointed out, it is available to a bankruptcy to renounce executory contracts. He suggests that there should be certain exceptions under certain circumstances, such as licensing arrangements, and I agree. There should be, however, the ability of a bankruptcy trustee to assign and transfer executory contracts that have been brought up to date to third parties.
Mr. Baird has suggested it with respect to licensing arrangements. The same should be true of any other contracts, including, for example, leases of premises. I will speak particularly about leases of premises because that is a very clear example of the problem, but it exists in many other categories of contracts.
The law across Canada with respect to leases is provincial law. Therefore, we have no uniformity across Canada. For example, the Province of Ontario, under the Commercial Tenancy Act, provides for the ability of a trustee in bankruptcy under certain circumstances to assign leases. I would suggest that the provisions of that law are inadequate, but at least there are provisions dealing with it.
In the Province of Quebec, for example, which is the province with which I am most familiar, there is no such provision.
If there is a clause within a commercial lease that indicates that bankruptcy is a means by which a landlord can cancel the lease, then the bankruptcy of the tenant creates a situation whereby the economic value of that lease is lost, even if there are not any real defaults under that lease.
The law of Quebec, Ontario and other provinces should not be different on that point. I suggest that for this area, including other executory contracts, a trustee in bankruptcy should be given the right to realize, for the benefit of creditors, whatever economic value resides in the assets including executory contract assets.
Our insolvency law is deficient in that it does not address the issue of the corporate shell; the equity holdings within a reorganizing entity, and within a bankruptcy entity, are not affected under our current law. Let me discuss it both in the context of bankruptcy, and in the context of reorganization.
In the context of bankruptcy, the shareholders remain the shareholders. There are certain rights that cannot be realized without the cooperation of shareholders. For example, tax losses within a company, which can be an important asset can only be used within the corporate shell in which the losses were created. A trustee cannot sell the tax losses because only the shareholders of the company qualify for the benefit of the tax loss. There is no provision under our insolvency legislation to take away the equity and give it to someone else. A trustee should have the right to take away the equity and give it to someone else.
Let me give you an example of an area where this was an important issue. Mr. Baird referred to the Eaton's insolvency wherein a number of interesting things occurred. In the Eaton's situation, there were huge tax losses within the company. There was a buyer who had the desire to acquire the company free of most of the old assets and liabilities in order to access the tax losses. This could not be done without the cooperation of the shareholders. A plan was developed whereby the assets were liquidated for the benefit of the creditors and the shares were sold. A large amount of realization attributable to the sale of the tax loss was channelled to the shareholders at a time when the creditors were receiving substantially less than 100 cents on the dollar.
The Eaton's reorganization was not reorganization; it was a bankruptcy in disguise. The shareholders had the leverage to make this situation occur. In reality, realizations that best belonged with creditors landed with the shareholders because of deficiencies within our insolvency law. The trustee should be given the ability to deal with the corporate shell.
Within the reorganization system current equity holders have too much leverage over the process. It frequently happens, although more so with smaller public entities, that creditors are forced to take major write-downs of their debt in the course of a reorganization that leaves the equity holders intact. In reality, the creditors have made an equity contribution to the shareholders. There are reasons within our law as to why this is the case and where this situation could be alleviated to some degree. It cannot be fully alleviated in the case of private companies because in many of those the goodwill of the company resides in the head of the principals and not in the assets themselves. Therefore, the equity cannot be fully taken away from the shareholders with the company continuing at the same time. However, there are ways to better balance the issues in that respect.
There are differences across Canada for which I wish I had good solutions to propose. Currently, in the practice of insolvency, as opposed to the substantive rules, virtually all large restructurings in Canada, through the CCAA, occur in Toronto, without regard to where the centre of gravity, to use a non-juridical term, of the enterprise is located. I can cite the examples of Teleglobe, Air Canada and Evaco, which are Montreal companies. Yet, the management and professionals of those corporations choose to reorganize in Toronto rather than in Montreal.
I have used Montreal as an example but there have been a number of others that have come to Toronto from other provinces. This is not in any measure a criticism of the Ontario practice. On the contrary, it is a compliment to Ontario practice and to the practitioners in the judiciary of Ontario.
The means should be sought, and I do not know whether it can be done through legislation, to try to balance that situation. Perhaps it could be done by mandating and creating more specialized judiciaries in the major centres of Canada. Toronto has succeeded in creating a specialized and highly skilled judiciary. Perhaps rules of practice could be developed so that it would be easier to conduct real-time litigation in reorganization matters rather than ponderous litigation kinds of rules that are applied in many other places.
Currently, the rules of practice under our BIA that are applicable across the country somewhat simplify proceedings thereunder. There are no rules of practice under the CCAA and, therefore, the provincial rules of practice apply. These have been applied in a supple manner in Ontario and in a less supple manner elsewhere. Perhaps the inclusion of rules of practice would help.
There is also lack of uniformity is in the area of insolvency receivership. When a corporation is insolvent, assets are taken over by secured creditors and realized. Federal insolvency legislation does not occupy this field. As a result, receivership is dealt with across the country as a provincial matter with resulting differences across and with great difficulties in handling a receivership when assets are located in many provinces.
In Ontario, where the action is in this area, the interim receivership provisions of the BIA have been massaged and stretched to a degree that they are not recognizable, but in a practical way so as to have created a quasi-system of uniform receivership across Canada. I applaud the practitioners and judiciaries of Ontario for having done that.
The judiciaries elsewhere tend to be more timid because they do not find a legislative mandate for dealing with things the way that it has been the case in Ontario. I would suggest that the legislation should address these issues.
I should like to address the schizophrenic relationship between the BIA and the CCAA insofar as reorganizations are concerned. In general terms, it is intended that reorganizations under the BIA handle smaller matters and that larger matters are dealt with under the CCAA. The rules and practices under the two statutes are so different as to be unrecognizable from one to the other in a way that one questions whether it makes sense.
Executory contracts can be dealt with under a CCAA with the exception of commercial leases of premises. However, they cannot be dealt with under the BIA. There is no valid policy reason for that difference. If executive contracts have to be renounced, they have to be renounced whether they are a big or a small company.
There are many proposals for DIP financing under the CCAA. What is the policy reason that allows debtor in possession financing to occur under the CCAA but not under the BIA? There is no valid policy reason. I have heard it expressed that it would be too expensive, but frankly, I believe that is somewhat elitist and paternalistic.
If a reorganizing entity believes that it is too expensive to seek DIP financing in its reorganization, it will not do it or it will not be able to do it. However, it should not be denied the opportunity to try to do it if the concept makes sense.
There are many other areas where the BIA is much too rigid, and it may be that the CCAA is much too flexible. I am not saying that flexibility is not a good thing. It is a wonderful thing that we have flexible statutes, and it is wonderful thing that our practice is less litigation oriented than it is in the United States.
One of the important features of our law has to be predictability. When lenders, especially foreign lenders in this era of globalization, seek to lend to Canadian entities, they wish to understand the law. They need to know the consequences of the law and to what extent someone else can prime their security. Lenders need to know to what extent they can be impaired. We cannot provide lenders with answers because of the existence of the flexibility of the BIA and the lack of guidelines within it. That situation can turn lenders away.
Another area of the dichotomy between the BIA and the CCAA is in voting for plans. There is a principle under the BIA that says that related parties who are also creditors cannot vote in favour of a plan. One can say that is a good rule or not a good rule. I would suggest that it has merit, but that happens to be the rule.
There is no such rule under the CCAA. There have been plans where, in effect, the owners of a company have managed to amass enough debt so as to be able to be voters in a CCAA plan. They have managed to force a plan through at a time when the outside creditors are against the plan, voted against it, but the creditor votes were not meaningful because they were diluted by insider votes. Whatever one believes should be the treatment of such a situation, there is no valid policy reason why that should be different under the BIA and the CCAA.
These are examples of why I feel there should be greater coordination between those two statutes in so far as they relate to reorganization.
The Chairman: Thank you very much.
Mr. Delorme, you are here with a specific mandate and a specific function. Is there any intervention you wish to make at this point?
Mr. Jean-Claude Delorme, Chairman of the Management Advisory Board of the Office of the Superintendent of Bankruptcy: Mr. Chairman, I am not in a position to comment on any of the points that Mr. Baird and Mr. Mendelsohn have raised, but I would like to express a different set of points.
For the information of the members of this committee, in case the mandate of the board of which I am the chairman is not known, the board was set up for the purpose of providing advice on managerial practices in application within the Office of the Superintendent of Bankruptcy.
Our mandate does not extend to points that are related to the legislation itself nor to the exercise of the quasi-judicial functions of the superintendent. Our mandate is to review the annual business plans of the Office of the Superintendent of Bankruptcy, to review performance against those plans, and to review the revenues and cost. That is a particularly important part of our mandate because the ultimate purpose of the board is to support the goal that was defined for the Office of the Superintendent of Bankruptcy when it was set up as a special operating agency. More specifically, it was then expected to operate on a financially self-sufficient and self-funded basis. From that point of view, we pay particular attention to the financial operations of the office.
I would like to mention one point on which the board has spent a considerable amount of time. It is in connection with the financial framework under which the Office of the Superintendent of Bankruptcy operates.
Considering that the ultimate goal is for the office to be financially self-sufficient, it would logically follow that the office should then have access to the totality of the revenues it generates. Unfortunately, that is not the case. This restriction has been acknowledged, and a number of adjustments have been made by the Treasury Board to enable the office to have greater access to the revenues it generates, however, even with those adjustments, there is still a shortfall of revenues to which the office does not have access.
The Chairman: I will ask you to keep this as confined as possible. The focus this morning is on some of the policy issues. I do not want to intrude on the committee's time. Frankly, we are in different areas here.
Mr. Delorme: I realize that, Mr. Chairman. I am not entirely certain whether I should be here today, even though I have been invited.
With your permission, I would like to highlight what we believe is the impact of this shortfall for this weakness in the financial framework. This restricts the ability of the superintendent, not so much to perform the statutory non-discretionary functions, but his ability to perform some discretionary functions that require some expenses, but at the same time do not generate revenues. I am referring, in particular, to the compliance monitoring function in relation to compliance by trustees and debtors.
We feel that these are functions that are absolutely essential, because it is on these functions that the credibility and reliability of the overall insolvency process in Canada depends. That is the reason why we feel that this is an issue that should be addressed in order to give the superintendent all the means that are required to achieve the goals of its mandate.
The Chairman: Thank you very much. I will open to questions now.
Senator Kelleher: Mr. Mendelsohn, as you correctly pointed out, both of the acts contain deficiencies. Should we try to merge the two? Do we really need two separate acts? Would we be better off to try to merge them and get a comprehensive act?
I am not criticizing Judge Farley because there is not much for him to follow under the CCAA. His court is primarily made up of judge-made laws. It is very difficult, I believe, for practitioners in that court to know where the court is going. Do we need some amendments to the CCAA to provide a better framework so that there is more certainty when one goes to that court?
Mr. Mendelsohn: This issue has been discussed for years. The opinions I express are my own because I do not believe they are the mainstream opinions.
I believe there should be one statute. There should be what I describe as a simplified default regime for certain smaller situations, but with full flexibility to use all of the restructuring tools available for all corporations seeking to restructure, whether they have more than $5 million of debt or less.
I believe that a problem with having judge-made law without guidelines increases the lack of predictability in the law. There is a very natural, human and well-intentioned bias built into the process in favour of restructuring entities, because everyone wants to see entities survive, especially if they have a well-known public face. The law tends to get stretched toward saving the entities, and often the rights of some of the stakeholders are not protected in the process to the extent that they should be. If there were more elaborate guidelines in our law and more clearly enunciated principles as to what can and cannot be done that may create some counterbalance to that understandable bias.
Senator Kelleher: Although it is off topic to today's discussions I wonder if you have an opinion on whether there should be more protection for private RRSPs under the Bankruptcy Act.
Mr. Baird: I think we both have opinions on that subject.
Senator Kelleher: We are at the age now where we have to look at these things.
Mr. Baird: You are correct. My answer is "yes." There is a strong prejudice toward self-employed people who have RRSPs, because their RRSPs are not exempt from seizure, as opposed to a person receiving a pension and the pension is exempt. I believe there should be rules giving self-employed private pensions or private RRSPs the same status as pensions that are being earned by employees.
Mr. Mendelsohn: I agree also. There has been a suggestion that there be a clawback of RRSP contributions made within three years preceding the bankruptcy. I question that, and I suggest a different approach as follows; there should be a clawback to the extent that the RRSP contributions, in whatever their reference period is, exceed the contributions generated by the earned income in those particular years. In other words, if someone is topping-up an RRSP by making contributions that became available from previous years that should be clawed back. However, in the same way that pension payments made in the few years leading up to the bankruptcy are protected, I believe that there is no reason why RRSP contributions, subject to those limitations, should not be protected.
There is a proposal on the table to the effect that the protection given to RRSPs be given only if the bankrupt debtor transfers the RRSP into a locked-in vehicle. That is not a proper exercise for the insolvency legislation.
There is a policy issue as to whether RRSPs should have to be locked in because it is not an insolvency issue. However, if the insolvency policy issue is such that people should be allowed to make RRSP contributions and withdraw them, then if they declare bankruptcy under the premise that their contributions should be protected, I suggest that there would be no reason to deny them to do so after the bankruptcy what non-bankrupts would have the right to do, and that is to treat their RRSP contributions as they choose.
Mr. Baird: I do not agree with Mr. Mendelsohn on that issue. The policy making it exempt would be solely to give people protection in their old age. Forcing them to be locked achieves the policy objective of ensuring that the bankrupt has funds available for his or her old age.
Senator Kelleher: He may feel differently as he gets older, Mr. Baird.
Mr. Mendelsohn: I hope someone asks the question about labour contracts.
Senator Oliver: Sometime in the future I would like to have a discussion with Mr. Mendelsohn about his concept of the difference between creditors and shareholders involved in a restructuring. As I listened to the various points you made, I understood that the shareholder has a pretty lowly position, particularly when you start talking about the subordination of equity claims, et cetera. I pity the poor shareholder if you were in court against them because you seem to have too much priority for the creditors. However, I do not want to have that debate now but I would not mind having it in the near future.
Mr. Baird, I was most interested in your comments about multinational restructuring and the code. In your conclusions you said that you would recommend that the introduction of the model code be deferred until such time that the issues to which you referred be ironed out.
You gave us the excellent example of Philip Services, and it seems that a number of matters that you raised should be dealt with right away. For instance, you said that when an application was made under section 47(1) to have Ernst & Young appointed as interim receiver it was the first time that any of the assets under the shareholders and creditors of Canada had a say in it. You alluded to the fact that perhaps in the United States proceedings Ernst & Young was a monitor. I am not sure if some court appointed them or how they came to be in that position.
It seems to me that there should be an amendment to ensure that, before American courts decide upon the fate of assets and creditor's claims in Canada, we should have a Canadian presence.
If you agree with that conclusion, what amendments would you suggest to this policy-making committee?
Mr. Baird: I definitely would agree with that suggestion because it is important that Canadian creditors and other interested parties have input. I would impose significant delays on the Canadian court for dealing with the issue. This would force the proceedings to be commenced in Canada sooner. For example, we have a proceeding in which the court is authorizing a sale of assets at the first time of the application. I would impose a regime whereby the court could do nothing but stay proceedings on the first application; could not make any substantive orders; and would provide notice to all major creditors so that they would have an opportunity of a meeting in Canada to discuss the situation. The court would then be given the opportunity to hear the views of the Canadian creditors.
I also recommend that the Canadian courts impose a financial burden on the proceedings to support financing the Canadian creditors who want to get involved in the process. For example, the appointment of a creditor's committee and require funding of the creditors committee before any decisions are made by the Canadian courts.
If you impose these kinds of restrictions on the Canadian court before it is able to react or deal with the issues arising from the sale of assets in the United States, the Americans would be told that they would be required to come to Canada early if they wished to get their sale process through within their time frame. If they had come to Canada in June when the American proceedings were commenced, and if a creditors committee had been appointed in June, the Canadian creditors would have been given a reasonable opportunity to input into the process. That is all we are asking for. We want to input into the process by following the American practice of appointing a creditors committee at the expense of the estate so that the creditors in Canada will be on an even playing field. The American creditors are being financed through the estate, and I believe the Canadian creditors should be, as well.
Senator Oliver: I do not think our courts should merely be a rubberstamp of the Americans' determinations and decisions without notice to Canadian creditors.
Do you have an amendment that we could recommend to ensure that we do not have another Philip case occur?
Mr. Baird: I have the concept and I would be happy to submit it to and discuss it with your counsel.
Senator Moore: Mr. Delorme is it correct that your management advisory board does not initiate or participate in policy matters with respect to the Office of the Superintendent.
Mr. Delorme: In essence, yes, you are correct. We do not participate in policy matters.
Senator Moore: Mr. Mendelsohn, in respect of the Eaton's case, you mentioned that through the sale of the tax losses the shareholders ended up with those proceeds. In that decision, was it 50 per cent plus one in the voting of the shareholders?
Mr. Mendelsohn: I suggest that it is not actually a voting issue. If there had not been an accepted plan, the tax losses would have been lost and no one would have been in receipt. The creditors were not giving up anything that they had, rather something was being saved and that was available only for the shareholders.
Senator Moore: How was a decision made? If I were a shareholder would I receive a kind of proxy form with respect to this issue?
Mr. Mendelsohn: Yes. There was a shareholder vote on the issue. I believe it was based on two-thirds.
Senator Moore: It was two-thirds and not 50 per cent plus one.
Mr. Mendelsohn: Yes, two-thirds is the correct amount.
Senator Moore: Would the proceeds from that deal would have gone to a separate shareholder's account and then distributed to the shareholders as a dividend?
Mr. Mendelsohn: The structure is somewhat complex. Essentially, the assets and liabilities of the existing Eaton's were parked in a separate company to be liquidated for the benefit of the creditors; the new shares of the company were transferred to the purchaser, who purchased the shares and then amalgamated its entity; and the old shareholders were given a note that represented the proceeds of the sale of shares that reflects a deemed value of the tax loss.
Senator Moore: Did they actually receive cash?
Mr. Mendelsohn: I do not think they have received it yet because there was a waiting period for tax-related reasons. Yes, they will receive cash.
Mr. Baird: We acted for Sears in this matter. The concept, of course, is that the purchaser will pay "X" dollars for the total value of the assets plus the tax loss. It is then an issue of how that tax value is allocated among the various stakeholders. Mr. Mendelsohn's point is that the value should be given to the creditors and not to the shareholders. Is that correct?
Mr. Mendelsohn: Yes. The general corporate flow is that secured creditors take precedence at the front of the line, ordinary creditors fall next in the middle of the line and shareholders are at the end of the line. Therefore, if there is a value deficiency, shareholders should not participate unless the creditors are fully covered.
Senator Moore: You mentioned that real-time litigation should be invoked. Can you expand, please? What do you mean by it and how can it be achieved?
Mr. Mendelsohn: Mr. Justice Farley's court operates on a real-time basis. That is, the court has made a commitment to its constituents that it will deal with issues quickly and expeditiously and will make decisions at a time when the decisions are meaningful and have not been overtaken by events.
I can give you an example of a situation in counterpoint to that. It is the case of a reorganization of a public company in the Province of Quebec where there arose a dispute at the outset of the CCAA reorganization as to whether certain parties said to be related should have a right to vote so as to dilute a class of note holders. That was the issue. The merits do not matter, but this was a classification issue.
The courts of Quebec took approximately a year and one-half to two years to come to a conclusion on that narrow issue with weeks and weeks of irrelevant testimony on all sides of the debate. Had that situation manifested itself in Mr. Justice Farley's court, there would have been a decision on that point I would say within 10 days, but it may be shorter than that.
Again, the outcome is not what was important. It was important that the thing be decided and the process move on. That is real-time litigation.
Mr. Baird: I have had two instances before Mr. Justice Farley. One incidence concerned Cadillac Fairview. The hearing started at 5 p.m. on a Friday before Christmas and went to nine o'clock at night. He then made his decision.
Another time, he ordered a meeting of creditors to be held at eleven o'clock in the evening on a Friday night. He will hear matters early in the day and late in the day if it appears that they are very urgent.
Senator Moore: We are not locked into the usual periods of notice. He is dealing primarily with the interests of the creditors to get the thing done in an expeditious and timely way.
Mr. Mendelsohn: These situations tend not to be fact-based. That is, the facts tend to be not in dispute. It does not require all these examinations on discovery and cross-examinations.
Mr. Baird: One of the reasons for his success is that he will reject the cumbersome proceedings and try to zero in on the exact issue before the court; or he will force the courts to go outside and negotiate. Through that process he has been able to keep things moving very promptly. He achieved that in Air Canada situation as well.
Senator Moore: In your remarks, Mr. Mendelsohn, you talk about the hustle of the Ontario practitioners and judiciary and the people seem to be going to that jurisdiction to deal with these sorts of cases. You gave the example of a case that went on for over a year.
Are other courts emulating the type of sensitivity and the timeliness exhibited by Justice Farley, or is Ontario the only jurisdiction where this is happening, and, therefore, the cases are going there for processing?
Mr. Mendelsohn: I am able to comment best on the Quebec situation because I know it best. There is a consciousness in the Quebec judiciary that this problem exists. There is a stated willingness to attempt to redress the situation, but, so far, very small baby steps have been taken and unless there is a radical change it is unlikely that much will happen. The judges are not even given the opportunity to generate the expertise that they require because they are not getting the cases. There is a loop effect.
Senator Moore: They must see what is going on. Surely someone will be brave enough to step up and start to act as expeditiously as his colleague in Ontario.
Mr. Mendelsohn: On Monday I chaired a panel with Judge Farley on one side and Mr. Justice Chaput on the other side. Mr. Chaput is the head of the commercial division of the Quebec court. I can assure you that somebody stepped up and made the point in as dramatic a way as it could be made. Yes, the point has been made. Whether the point is taken, I do not know.
Mr. Baird: Having him work in Toronto is very welcome to a Toronto lawyer.
Senator Moore: Have you a comment in terms of the judiciary? There are more judges than Mr. Justice Farley?
Mr. Baird: He is not the only person who deals with matters promptly. We are fortunate that we can see judges as early as possible or late in the day if necessary. The Court of Appeal also deals with matters very quickly; we are able to expedite an appeal application when it is necessary to do so.
The recognition of the commercial reality that time is important is there in the commercial list, and adopting a commercial list in Toronto has helped the situation.
The Chairman: I am worried that we might fall into the trap of personalizing processes and relating too much within the context of an individual.
As a law student, I had a professor who was a disciple of Lord Denning. My professor believed that if the Lords approach was not taken then it was old-fashioned.
We have had academic evidence there is an acceptance of what might be a more efficient practice in the courts, but behind all this there is a bit of a dilemma.
Mr. Mendelsohn, we hear from counsel and those who are directly involved in the process that processes that move quickly, take advantage of flexibility and arrive at decisions are to be applauded. The interests of the parties are well served. The general thrust is that it is possible to move things forward expeditiously. That generally favours everybody involved.
However, Mr. Mendelsohn, you have suggested that there is an issue of predictability. My concern is that if we become very oriented toward the way a particular court operates, implicitly, it seems to speak to the benefit of greater and greater flexibility. Yet, at the same time, I hear your stress on the importance of predictability, which takes me to the issue of measuring outcomes. Can you tell me which is the better way of doing it?
If the predictability of outcome is that the enterprise is ongoing, if that is the measure of effectiveness of outcome, do we save a business and keep it going? Is that what we should be testing to see whether or not the system is working well, or are the creditors coming up closer and closer to whole?
I do not want to lose sight of the principles; we can get very involved in the details and processes, but I am interested in predictability and its importance. I am interested in the broad economic Canadian interest.
Is helping make Canada work more efficiently as an economic system part of our basic economic framework? Does Chapter 11 work better or does this work better? What is the way of measuring whether or not the system is working better? What is the balance of interest between the ongoing business and the creditor? Can we find, within our existing legislation, a little more to bring predictability to all this without sacrificing the efficiency that comes with a flexible system?
Mr. Mendelsohn: I would like to draw a distinction between substance and procedure. Insofar as procedure is concerned, I think that it makes very good sense to have very expeditious and flexible procedures for the reasons that have been discussed. Indeed, these matters should be conducted in real-time so that the decisions achieve something.
I suggest that if the substance of our law is somewhat more regulated it would help to create predictability, and would not take away the ability of the courts to deal quickly, expeditiously and practically.
DIP financing. One might ask the philosophical question: Is it correct to have a concept that a secured creditor's position should not be deteriorated by the existence of DIP financing sliding in front of it?
Is it the policy of our law that one should not prejudice the secured position of a secured creditor, or is there a greater good that you have to balance prejudices so as to keep the company alive? I suggest that it is not a valid exercise to prejudice a secured creditor's position by DIP financing to keep a company alive.
To answer your question as to how you measure what is good, I am not sure. However, I do not think that the goal of wanting enterprises to live should be overemphasized. There certainly should be that goal, however, it should not be overemphasized because there is a life-and-death cycle in commercial life, as in human life. Sometimes companies and enterprises have to die. Indeed, many of the CCAA cases have given rise to temporary life and the companies have died anyway.
Today, we seem to be talking about Eaton's. Eaton's went through two CCAAs; the first one was a real reorganization and the second one was liquidation in disguise, even though it was done through the liquidation process.
There was Dylex, another well-known Canadian chain of retail stores that had a CCAA, lived for two years after reorganization and died.
Certainly, the fact that the company lives is not always the best measure, although it appears to be at the time.
Senator Massicotte: Is it appropriate that a creditor be short-changed for the benefit of the future quality of life of that individual? All kinds of people argue to have exempt assets. If you accept the exempt assets, you obviously diminish the right of collection by the creditor. Effectively, it is the creditor subsidizing those government policies or preferences and so on. Is that morally appropriate? Basically, a creditor lent you some money, it is his; and you are saying, I will only pay you back if I have excess assets.
Mr. Mendelsohn: If an individual works for a large corporation that has a pension plan, the pension plan is built up and the asset is protected from bankruptcy. If the same individual does not work for a large corporation but is, for example, a self-employed professional, and benefits from the RRSP system why should the result be different? I do not believe there is a moral difference between those two circumstances.
Senator Massicotte: I understand that argument well, and it is convincing; but I guess I was trying to get back to zero. Perhaps the pension should not be protected; and the whole reason this whole RRSP within life becomes protected is for the sake of life insurance for the deceased. All kinds of people argue they should have exempt assets. Should they be exempt? Obviously, you are taking creditor money to subsidize some government policy or someone's lifestyle.
Mr. Baird: I guess there are different categories of creditors. One of the arguments, and this is in support of exemption, is the creditors are very sophisticated. They are aware of what they are doing, and of the risks they are taking. Therefore, if they are lending money to a person who has an exempt pension, or to an exempt RRSP, they are taking a business risk. Therefore, it is not unfair, when they know what they are doing, to permit that. The problem arises, of course, when you have other creditors who are not as sophisticated. To what extent should they bear this risk? It is really a very difficult social policy decision.
Senator Massicotte: My second question relates to the same thing on a corporate side.
We have heard submissions, in particular on the CCAA, from people who are not so advised. In other words, individuals put deposits with certain companies — it could be theatre tickets, it could be deposits for a dress or whatever, employees who are not adequately informed of the financial position of the company, like unpaid wages, all kinds of arguments to say these credit liabilities should be in priority to even the unsecured creditors because of the fact they are less informed than others. Again, you get the issue of fairness. Is it appropriate? Is it accurate? How do you measure that? Do you have any comments in that respect?
Mr. Mendelsohn: A starting point in any insolvency system is that it cannot really be fair because by definition, you are dealing with a situation where you have a pie that is not big enough to feed all the hungry people. That is where insolvency begins. It is a question of balancing the pain, and there is no category of creditor that loses out for whom the system is totally fair. It is a question of balance.
If someone suggested that a layaway plan or a deposit would be preferred, I suspect that we would come up with so many examples of claims that are more meritorious than other claims that we would end with an unworkable system.
Mr. Baird: That problem arises very specifically with respect to 30-day goods and the right of a supplier to recover those goods if they have been delivered within 30 days. The effect of such a provision clearly prefers that supplier over the one who delivered the goods 32 days before the bankruptcy. That is a specific provision that was put in the act in 1992 and placed specific assets available for unpaid vendors ahead of the ordinary creditors. I do not believe that is a fair allocation of the assets. Nevertheless, from a political point of view, that decision was made. You have raised an important issue of How to balance the rights of the various parties.
Another problem with the 30-day good provision is that it clearly hampers reorganization. If it were strengthened, it would give the unpaid supplier the right to block reorganization unless the goods were paid in full.
Senator Massicotte: There is also the matter of unpaid wages. People are saying that directors and officers may be responsible for unpaid wages, et cetera. Would you give those wages priority? It is always a question of balance.
Let us talk about CCAA. Occasionally the courts have taken the liberty of terminating or amending contracts. Certainly, they have the right to terminate leases under the act. Mr. Baird has said that contractual agreements should continue. From a philosophical sense, should the courts have the right to terminate other contracts or amend the terms of a labour contract? The same academic or intellectual argument applies to all contracts, including intellectual property.
Mr. Mendelsohn: I was hoping someone would ask a question about labour contracts and here it is. The first time I had occasion to deal with this question was when the proposed new bankruptcy act was tabled around 1980. There was a general system of renunciation of contracts that was broad enough to cover labour contracts, whether that was intended or not.
One of the realities of economic life, I believe, is the following: A pool of assets has only the value that it has. In the case of the liquidation of the assets of an insolvent enterprise, the more strings you attach to those assets, the less chance those assets have of being used productively. Currently, our insolvency legislation does not allow for the renunciation of labour contracts. I should say that we do not know whether it allows for the renunciation of labour contracts because it is an unclear issue. It arose in the Air Canada case and it was never resolved because, mercifully, it never had to be resolved.
If a bankruptcy trustee seeks to sell a pool of assets as a going concern, and if there is a labour contract that is too rich for the assets, and if the law is such that the purchaser of those assets must respect that labour contract, then the result is that no one will buy the assets. There have been many circumstances in which businesses that could have been transferred as a going concern were not transferred because no one would buy them and take on onerous labour contract liabilities and the assets got sold piecemeal, factories were dismantled and, in effect, the enterprise value was totally lost.
It is my belief that the reality of life gives rise to a conclusion that labour contracts should be among the category of contracts that should be dealt with both in a reorganization and in a bankruptcy. I understand that is very dangerous politically territory. However, philosophically, it is my belief that it is appropriate.
Senator Massicotte: You said, "be dealt with." Do you mean they should be terminated or amended?
Mr. Mendelsohn: So far, there are no provisions that can impose amendments unless it is simply to amend the amount of accrued debt that is owed. It has to be done through negotiations. I am talking about the possibility of termination if negotiation cannot give rise to amendment.
Senator Massicotte: I presume that if you went that far and if the judge has the right to terminate labour contracts, you would have a right to terminate other contracts, including intellectual property, et cetera?
Mr. Mendelsohn: We will consider a proper case with proper judicial supervision, such as Mr. Baird's scenario of licence rights where the bankrupt was the licensor and where the contract did not need to be fed by service. In such a contract, even in the case of a reorganization, if a renunciation is to be done because there is a belief that a higher price could be commanded, then the repudiation right is being used as a sword and it should not be allowed.
If there is a contract that, through circumstances, is overly onerous on the reorganizing debtor, then it should be renounced because then the renunciation right is being used as a shield and not as a sword. There has to be some kind of objective analysis of whether circumstances have made the continuation of this contract an unviable thing. If not, it should not be able to be renounced for the purpose of negotiating a better price.
Mr. Baird: To have that adjudication and issue discussed in court would delay reorganization and even presenting that is an issue going forward gives the court a significant problem because the courts are not perfect and it involves delay. We have to trade-off delay versus fairness.
With respect to union agreements, a small step forward, not the perfect step but a step that may be reasonable, would be to give a trustee in bankruptcy or a receiver the right to present a new union contract to the local union for voting. On many occasions, the union representatives conduct the negotiations and the union members are given an opportunity to vote. I recommend that the trustee in bankruptcy and/or the receiver be entitled to present to the employees a new, revised contract and give them the right to vote on it privately. I have been concerned that employees are not given, in some cases, the opportunity to vote. The unions represent not only one local but also many other locals, and they do not want to have a precedent that would hurt them in other situations.
Senator Massicotte: Do you agree with Mr. Mendelsohn's comment that if it were not profitable under CCAA, they would have a right to cancel the contracts, including intellectual property?
Mr. Baird: Adjudication causes too many problems. Therefore, I would not support Mr. Mendelsohn's comments because the complexity of the adjudication takes away from the ability to reorganize in a prompt and efficient manner.
The Chairman: I thank you, gentlemen, on behalf of the committee for your participation.
The committee adjourned.