Recent Ontario Court of Appeal decision provides insight on the recognition of foreign orders

21 minute read
17 August 2021

Many describe the United States as Canada's most important trade partner.  Cross-border insolvency proceedings between the two jurisdictions are frequent and the recognition by one country's court of the other's bankruptcy orders is an important tool in facilitating the restructuring of companies with operations that spread across North America.  A recent decision from the Ontario Court of Appeal (leave to appeal of which was denied by the Supreme Court of Canada) invites us to reflect on the delicate balance between comity for foreign orders and Canada's sovereignty over domestic laws.



Since 2009, when Canada incorporated a modified version of the UNCITRAL Model Law on Cross-Border Insolvency[1] ("Model Law") into the Bankruptcy and Insolvency Act[2] ("BIA") and the Companies' Creditors Arrangement Act[3] ("CCAA"), our courts have had numerous opportunities to comment on the recognition of foreign orders and comity, "the central principle governing Part IV of the CCAA". [4]  Of these decisions, none involve an in-depth consideration of the "public policy exception" embedded in the Canadian insolvency statutes. [5]  This indicates that Canadian insolvency courts are taking a restrictive approach to interpreting the exception.

In February of 2021, Ontario's highest court provided direction on balancing the principles of comity, sovereignty and Canadian public policy.  In Actava TV, Inc. v. Matvil Corp. ("Actava"),[6] the Ontario Court of Appeal refused to give effect to a letter of request ("LoR") from a U.S. court on the grounds of public policy and sovereignty. Although Actava involved a foreign production order outside the insolvency context, the decision provides guidance on the recognition of foreign orders when such orders diverge from our domestic laws and public policy, or are otherwise prejudicial to our sovereignty or citizens.

Actava: Comity but not to the point of imbalance

The LoR at issue in Actava arose from litigation in the U.S. in which Actava TV, Inc. ("Actava") sued various Russian TV channels and Kartina Digital GmbH ("Kartina"). Matvil Corp. ("Matvil") is a privately-held, Ontario-based global streaming service, and Kartina is Matvil's main competitor. Matvil was not a party to Actava's U.S. action.

Actava's U.S. damages expert wanted to calculate Actava's damages using the "yardstick" method of assessment: Actava hypothesized that its own revenues would have followed an upward trajectory similar to Matvil's. In order to obtain the Matvil documents required by this "yardstick" method, Actava moved before the U.S. Court for a LoR compelling Matvil to provide commercially sensitive proprietary documents. The U.S Court granted Actava's motion and issued the LoR asking Canadian courts' assistance in recognizing the U.S. order.

Actava then brought an application in the Ontario Superior Court of Justice to enforce the LoR. In light of the private, sensitive, and proprietary nature of the information requested, Matvil contested two categories of documentation sought in the LoR: yearly reports of its revenue and profits since 2015, and all documents, from 2015 to present, containing or constituting an appraisal of its valuation.

Considering the factors identified in the LoR jurisprudence, the application judge found that, among other things, the documentation sought by the LoR was relevant and that enforcing the LoR would not be contrary to public policy. Matvil appealed from the application judge's order. The Court of Appeal allowed Matvil's appeal and, in doing so, engaged in a significant analysis of the importance of public policy and sovereignty when remedies available in a foreign jurisdiction exceed those that would be available in Canada.

Relying on longstanding Supreme Court of Canada jurisprudence, Pepall J.A., writing for the Court, noted that our courts must not recognize foreign orders if they are contrary to our public policy or otherwise prejudicial to our citizens or sovereignty.[7] While recognizing the importance of the United States as Canada's economic partner, Madam Justice Pepall warned that our courts must not emphasize comity to the point of imbalance.[8]

The Court went on to review at length the clear divergence of public policy between the U.S. and Ontario with regards to the rules governing production orders,[9] emphasizing that the U.S. has "vastly more permissive rules governing discovery" and that "reciprocity is not an even balance."[10]

Applying those principles, Justice Pepall had "no hesitation in concluding" that, had a comparable request for production from a non-party been made in an Ontario proceeding under our Rules of Civil Procedure, the order would not have been granted.[11] This point is interesting when considering certain decisions of our CCAA courts involving recognition of U.S. orders containing roll-ups[12] when sections 11.2 of the CCAA and 50.6 of the BIA specifically prohibit them.

Recognition of U.S. interim DIP orders in Canadian insolvency proceedings

In 2009, the Model Law was substantially adopted in Part IV of the CCAA and Part XIII of the BIA (the "Cross-Border Provisions") to address the recognition of foreign insolvencies in Canada. The Cross-Border Provisions specifically provide that a foreign order need not be recognized if it is contrary to domestic public policy.  The Cross-Border Provisions contained in the CCAA also provide that an: "order made under subsection (1) [any order made following the order recognizing the foreign proceeding as a main proceeding] must be consistent with any order that may be made under this Act."[13]

Hartford Computer Hardware, Inc. (Re) ("Hartford")[14] was the first reported decision to comment on the  application of the public policy exception in the context of a cross-border insolvency proceeding.

Following the commencement of Chapter 11 Proceedings[15] in the United States, Hartford Computer Hardware, Inc. ("Hartford") sought the recognition in Ontario of various orders granted by the U.S. Court, including a Final DIP Facility Order. The Final DIP Facility Order contained a partial roll-up. Section 11.2 of the CCAA contains an express prohibition on roll-ups; however, that section was not applicable as Hartford was not applying to the Canadian court to grant a charge pursuant to section 11.2, but rather, to recognize a U.S. Order granting such a charge where the U.S. Chapter 11 Bankruptcy had been declared a "foreign main proceeding" pursuant to Part IV of the CCAA.

In his reasons, Justice Morawetz (as he then was) highlighted the findings of the Information Officer that:

  • the U.S. Court found that good cause had been shown for entry of the Final DIP Facility Order;[16]
  • the granting of the Final DIP Facility Order was supported by the Unsecured Creditors' Committee;[17]
  • Canadian unsecured creditors would be treated no less favourably than U.S. unsecured creditors;[18] and
  • there would be no material prejudice to Canadian creditors if the court were to recognize the Final DIP Facility, and that nothing was being done that would be contrary to the applicable provisions of the CCAA.[19]

Justice Morawetz went on to emphasize two more points: that this was a motion to recognize an order made in the "foreign main proceeding", and that a "significant factor" to take into account was that the Final DIP Facility Order had been granted by the U.S. Court.[20] Based on the foregoing, Justice Morawetz held that, as per s.49 of the CCAA, recognition of the Final DIP Facility Order was necessary for the protection of the debtor company's property and for the interests of their creditors.[21] 

In making this determination, Justice Morawetz indicated that he had also taken into account the public policy exception.[22] Justice Morawetz then endorsed the commentary in the Guide to Enactment of the Model Law[23] to the effect that the public policy exception should be interpreted restrictively, and concluded that the Final DIP Facility Order did not raise any public policy issues.[24]

Since Hartford, Canadian courts have generally been inclined towards recognizing foreign insolvency orders, including U.S. DIP financing orders containing roll-ups, and narrowly interpreting the public policy exception – so narrowly that there are no reported decisions of a foreign order in an insolvency proceeding not being recognized in Canada due to public policy concerns.

That being said, in reaching these decisions, our CCAA courts appear to put significant weight on the prejudice that recognizing a foreign order may cause to Canadian stakeholders.  S.R.J. Morawetz noted the importance of this element in Hartford.  Prejudice to the Canadian stakeholders was also a determinative factor in Justice Morawetz's decision refusing to recognize a U.S. Interim DIP Order in Payless Holdings Inc. LLC, Re, 2017 ONSC 2321 ("Payless").  In that case, the DIP credit agreement required the Canadian Payless entities (the "Payless Canada Group") to be guarantors and employ their assets as collateral for the indebtedness under the DIP facility, even though the Payless Canada Group were not borrowers under the pre-filing credit facility or the DIP facility, and would not receive any advances under the DIP facility and the Payless Canada Group assets were unencumbered. Should the U.S. Order be recognized, the Payless Canada Group would effectively become jointly liable with the U.S. Chapter 11 debtors for obligations incurred by the U.S. Chapter 11 debtors under both the pre-filing and the DIP facilities. The recognition order was opposed by a group of landlords.  Justice Morawetz distinguished Hartford on the basis that it was not opposed and the information officer in that case had reported that there would be no material prejudice to Canadian creditors.  In the circumstances, the Court declined to recognize the U.S. Interim DIP Order as it was not satisfied that it was necessary for the protection of the property of the Payless Canada Group, or the interests of the landlords.

By contrast, in Hollander Sleep Products, LLC et al., Re, 2019 ONSC 3238 ("Hollander") Justice Hainey found it appropriate to recognize the U.S. DIP Order that contained a roll-up because, unlike in Payless:

[…] the DIP Order includes a quasi-marshalling construct where the DIP ABL Agent is obligated to first look to proceeds of the Chapter 11 Debtors' U.S. collateral to satisfy any outstanding obligations of the U.S. Chapter 11 Debtors under the DIP ABL Facility, and to the proceeds of the Chapter 11 Debtors' Canadian collateral to satisfy any outstanding obligations of Hollander Canada under the DIP ABL Facility.  Only once the collateral in the U.S. has been exhausted can the DIP ABL Lenders look to the Canadian assets to satisfy any outstanding U.S. obligation.[25]

The absence of prejudice to creditors of Hollander Canada, and the DIP ABL Lenders' consent to the quasi-marshalling construct, were key factors to distinguish this case from Payless."[26]

Conclusion

The provisions of the CCAA and BIA preventing court-ordered interim charges from securing any obligation that existed prior to the filing (i.e., roll-ups) were incorporated in the statutes in 2009 – at the same time the Model Law was incorporated. This prohibition altered what was, at the time, a common practice; Parliament's intention in that respect is unambiguous. Actava arguably stands for the proposition that Canadian courts should not recognize foreign orders granting roll-ups as such orders are impermissible under the CCAA.  This argument may be further supported by section 48(2) of the CCAA.[27]

That being said, the Court of Appeal in Actava was dealing with sensitive confidential information of a private Canadian company that was not a party to the action.  In addition, the requested evidence was sought for the sole purpose of assisting to evaluate damages. The Court found that the information and documentation sought by was of the LoR would not be subject to an order to produce in a Canadian proceeding. In contrast, debtor-in-possession financings are generally for the benefit of a debtor company's stakeholders and are being recognized when no prejudice to Canadian stakeholders ensues.  In recognizing U.S. orders authorizing roll-ups, Canadian courts are no doubt mindful of preserving value and optionality for stakeholders. One could argue that failing to recognize such orders would in fact be inconsistent with Canada's public policies regarding facilitating the restructuring of companies.

The Ontario Court of Appeal's decision in Actava causes us to reflect on the public policy issues at play when faced with foreign orders, especially because Actava suggests that if a foreign order would be impermissible under a Canadian statutory regime, then the order is contrary to public policy.

It remains to be seen whether Actava will impact our Courts' views on the recognition of foreign DIP financing orders, although allowing a company to live to fight another day may very well be the ultimate public policy consideration.

Should you have any specific questions about this article or would like to discuss it further, you can contact the authors or a member of our Financial Institutions & Services Group.

*Cliff Cole and Alex Zavaglia of Gowling WLG (Canada) LLP represented Matvil throughout the proceeding including the appeal to the Ontario Court of Appeal and application for leave to appeal to the Supreme Court of Canada.

The authors would like to thank Shamus Slaunwhite, a former articling student at Gowling WLG (Canada) LLP, for his important contribution to this article.

 

[1] Model Law on Cross-Border Insolvency of the United Nations Commission on International Trade Law, GA Res 52/158, UNGAOR, 52d Sess, Annex I, UN Doc A/52/17 (1997).

[2] Bankruptcy and Insolvency Act, RSC 1985, c B-3.

[3] Companies' Creditors Arrangement Act, RSC 1985, c C-36.

[4] Hollander Sleep Products, LLC et al., Re, 2019 ONSC 3238 at para 41 [Hollander].

[5] The public policy exception is set out in s.61(2) of the CCAA and s.284(2) of the BIA.

[6] Actava TV, Inc. v. Matvil Corp., 2021 ONCA 105, leave to appeal to Supreme Court of Canada dismissed on July 29, 2021 [Actava].

[7]See paras 41 and 43 of Actava.

[8] Actava at para 45, citing Pro Swing Inc. v. Elta Golf Inc., 2006 SCC 52.

[9] See paras 53-56 of Actava.

[10] Actava at para 57.

[11] Actava at para 97.

[12] The term "roll-up" is commonly used in the insolvency context to refer to interim financing arrangements, sanctioned by Court orders, that authorize the use of post-filing proceeds from a post-filing super-priority secured financing facility (the "DIP Loan") to repay obligations under a pre-filing financing facility provided by the same parties. The practical effect of a roll-up is to elevate some or all of the indebtedness owing to the lenders pre-filing, and the related security, to the rank of Court-approved super-priority obligations and charges.  Full roll-up arrangements are different from "creeping roll-ups" whereby post-filing cash from operations is used to first repay the obligations under the pre-filing facility while borrowings are made on the post-filing facility to fund ongoing obligations. When only part of the pre-filing debt is being repaid by the DIP Loan, and thereby receiving the benefit of the super-priority charge, it is refered to as a "partial roll-up".

[13] Section 48(2) CCAA.

[14] Hartford Computer Hardware, Inc. (Re), 2012 ONSC 964 [Hartford].

[15] Chapter 11 of the United States Bankruptcy Code, 11 USC.

[16] Hartford at para 7.

[17] Hartford at para 8.

[18] Hartford at para 9.

[19] Hartford at para 13.

[20] Hartford at paras 12 and 14.

[21] Hartford at para 15.

[22] Hartford at para 16.

[24] Hartford at para 18.

[25] Hollander at para 51.

[26] Hollander at para 52.

[27] To the authors' knowledge, there is only one reported decision in which a CCAA Court discussed Section 48(2) of the CCAA being Probe Resources Ltd., Re, 2011 BCSC 552. That case did not involve the approval of an interim financing facility.


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