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Canada in Crisis

Bailout is the buzzword of hope in today's economic crisis. The courts tend to be last on troubled companies' wish lists of saviors, and then only as the overseers in what is often a doomsday scenario in the guise of a restructuring.

But Canada may have found a better way thanks to the flexibility in the country's restructuring legislation, the Companies' Creditors Arrangement Act (CCAA). The unique statute allowed Ontario's courts to restructure not only a business but also an entire domestic market when Canada's $27 billion asset-based commercial paper (ABCP) market (see "Scrutinizing Assets") collapsed in August 2007.

At the heart of the CCAA lies a virtually unbridled--critics say draconian--power by which Canada's superior court judges can approve any "plan of arrangement" proposed by a majority of creditors. There are few governing rules, and they tend to be general, making judges' decisions frequently unpredictable. A vocal group of critics, many of them American lawyers who prefer the rule-based Chapter 11 to the principle-based CCAA, have complained that the Canadian system is a minefield for debtors and creditors alike.

But Ben Zarnett of Goodmans, one of Canada's top business law firms, says the criticism is misplaced.

"Remember that the proponents of the plan have to get by a creditors' vote and then convince a court that the restructuring is fair and reasonable," he says.

In point of fact, however, the stakeholders who set out to save the ABCP market from collapse had little choice but to turn to the CCAA.


Market Standstill

As the breadth of the U.S. subprime crisis became apparent in the summer of 2007, investors in Canadian ABCP lost confidence because they didn't know what assets backed their ABCP. Because of this lack of transparency, existing holders and potential new investors feared that the assets backing the ABCP might include subprime mortgages or other overvalued assets. Investors stopped buying new ABCP, meaning that there was no money to fund repayments of existing ABCP.

"With no new investment, no reinvestment and no liquidity funding available, and with long-term underlying assets with cash flows that did not match maturing short-term ABCP, the market came to a standstill," said a report on the crisis found in an affidavit filed with the Ontario Superior Court.

To solve the crisis, noteholders who held approximately $18 billion of the ABCP in dispute formed the Crawford Committee (officially the Pan-Canadian Investors Committee for Third-Party Structured Asset-Backed Commercial Paper), chaired by legendary corporate lawyer Purdy Crawford. Under its auspices, asset providers and liquidity providers entered into a standstill agreement, called the "Montreal Accord," which committed them to a framework for restructuring the ABCP by converting it to term floating rate notes maturing simultaneously with the corresponding underlying assets. The framework also provided for changes in the margin call provisions to reduce the likelihood of margin calls, thereby stabilizing the value of the underlying assets and the ABCP.

Seven months later, the committee had its plan. But there was a problem: $9 billion worth of noteholders, including more than 2,000 individual retail investors who controlled roughly one-third of the vote, had not yet been consulted. There was no assurance that they would go along for the ride. The committee needed a legal mechanism to sanction the plan. Approval under the CCAA was the only way to go.

Plan Support

The fate of the multimillion-dollar ABCP market, then, depended on an expeditious approval by way of real-time litigation of a plan of arrangement. It was a monumental undertaking including 60 groups of lawyers representing 60 groups of stakeholders.

Further complicating matters was the fact that restructuring an entire market was virgin territory for the courts.

"This was a case that brought together a half-dozen issues on the leading edge of insolvency law," says Craig Hill, a Borden Ladner Gervais lawyer who was appointed as monitor in the CCAA proceedings.

The issues included the propriety of converting the debtor trusts to corporations so that the CCAA would apply to them; the court's power to consolidate the proceedings by bringing all the troubled entities into a single application; and the legality of the third-party releases certain parties demanded as the price of facilitating the market funding necessary for the restructuring.

"The CCAA plan that has been initiated is of unprecedented size ... and importance to the capital markets," wrote Justice Colin Campbell of the Ontario Superior Court of Justice. Campbell approved the plan June 5, 2008.

Ultimately, the noteholders voted 96 percent by number and value in favor of the plan.

But dissidents proved formidable. Although no one objected to the plan in its entirety, the broad third-party releases built into the plan proved the sticking point. The releases operated in favor of most market participants, including ABCP sellers, liquidity support providers and asset providers, all of whom were "third parties" in relation to the debtor trusts.

Without these releases, the plan was a no-go: They were the sine qua non to which the noteholders behind the plan were not prepared to give the market-funding facilities at the heart of the restructuring.

Still, given its complexity, the process moved with surprising speed. It took fewer than seven weeks from the March 2008 filing date of the application for the interim CCAA order for Campbell to make his decision.

Less than a month later the parties were in the Federal Court of Appeal as the aggrieved noteholders sought to overturn the sanction order. They did not succeed. In late August the Court of Appeal upheld Campbell's ruling, and in September the Supreme Court surprised virtually everyone by denying leave to appeal.

"At the outset, when the application for leave was filed, my guess would have been that the Supreme Court would hear the appeal," says Kevin McElcheran of McCarthy T?trault, counsel to five Canadian chartered banks that supported the plan of arrangement.


Public Purse

But the rulings did bestow the court's blessing on a liberal and flexible interpretation of the CCAA, which turned a legal mechanism into a macroeconomic force.

But the market got the last say.

For two months following the final ruling from the Supreme Court, the Crawford Committee set about implementing the restructuring. But the enduring nature and scope of the overall credit crunch, combined with stock markets that fell more rapidly than expected, undermined the integrity of the plan of arrangement by making a serious dent in the value of the noteholders' underlying security.

Ironically, that forced the Crawford Committee to seek $2.9 billion in credit lines from the federal government and the governments of Ontario, Qu?bec and Alberta. At press time, the governments had agreed to provide the credit.

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Julius Melnitzer

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