New insolvency rules may prove valuable tool for energy sector
Ruling on RVOS imbues shares with value
Following their formal recognition by the Quebec Superior Court and British Columbia Supreme Court, reverse vesting orders (RVOS) are poised to become an extremely valuable tools in insolvency and restructuring proceedings — for the energy sector in particular.
Historically, courts have used standard vesting orders to transfer purchased assets out of an insolvent entity, unencumbered by creditors’ claims. But RVOS affect a sale of an insolvent entity’s shares in a transaction in which assets and liabilities unwanted by the purchasers are excluded. The unwanted elements are transferred to a newly incorporated company, where the insolvency process continues.
“The act of eliminating or ‘vesting out’ the liabilities and restoring solvency imbues the shares with value again,” said David Bish in Torys LLP’S Toronto office in an email. “Without that cleansing, no one wants to own the shares of a company whose liabilities exceed its assets.”
That’s precisely what happened in two separate cases in 2020: the Nemaska Lithium Inc. and Quest University Canada restructuring proceedings, both under the Companies’ Creditors Arrangement Act (CCAA).
Nemaska was a public company that intended to produce lithium hydroxide for the growing lithium battery market. But the company ran into difficulties, and obtained CCAA protection in December 2019. The purchase offer that emerged was conditional on approval of an RVO.
Various creditors, however, opposed the RVO, arguing that the CCAA allowed vesting orders only for dispositions of assets. Nor, these creditors argued, did the CCAA allow debtors to emerge from protection otherwise than by way of a compromise or plan of arrangement.
Nemaska was not the first instance in which a vesting order had been sought in Canada, but it was the first time its use had been contested.
According to a report from Davies Ward Phillips & Vineberg LLP, the first was granted in 2000 as part of retailer T. Eaton Co’s restructuring. It didn’t pop up again until 2015, in the insolvency proceedings relating to Plasco Energy Group, a waste-toenergy company.
Since, RVOS have been features of two insolvency proceedings in 2019 and nine in 2020. Insolvencies affected include Wayland Group Corp., Tidal Health Solutions Ltd., Beleave Inc. and Green Relief Inc., all in the cannabis sector; fashion retailer Cormark Holdings Inc.; Quest University Canada and Cirque du Soleil and Nemaska.
“There have been limited applications to date, but we have mostly seen RVOS used in highly regulated environments where licences cannot be transferred, such as in the cannabis and education sectors,” said Rebecca Kennedy of Thornton Grout Finnigan LLP, an insolvency, restructuring and litigation boutique in Toronto.
What’s significant about Nemaska, however, is that the creditors’ objection led to the first contested judicial decision on the validity of RVOS. In a lengthy judgment released in October 2020, Quebec Superior Court Justice Louis Gouin, who also issued the RVOS in Stornoway and Cirque du Soleil, decided that CCAA judges had a wide discretion to fashion remedies, including granting RVOS in the right circumstances.
So convincing was Gouin’s ruling that the opposing creditors could not even obtain leave to appeal in the Quebec Court of Appeal, which refused to hear the case on the merits in November 2020. A subsequent application for leave to appeal to the Supreme Court of Canada also failed in April.
“The care that Justice Gouin took over a seven-day hearing and in writing his decision was a singular reason I expect the appellate courts were so comfortable with the outcome,” Bish said. “There is already significant deference in insolvency matters to the decisions of the judges who carefully manage the cases at first instance, and that is especially true where, as here, so much time and care is given to a matter.”
Meanwhile, just two months after Gouin’s ruling, British Columbia Supreme Court Justice Shelley Fitzpatrick encountered the second contested RVO application ever in a case involving Quest University Canada. She granted the application, noting that Quest could not sell its ability to grant degrees and no purchaser could acquire this right indirectly through a share purchase because Quest, as an educational institution, was a corporation without shareholders. Granting the RVO was the only way to let Quest continue as a going concern.
“The Quebec and British Columbia decisions, combined with the Supreme Court’s refusal to grant leave, mean that RVOS are here to stay and have legal standing under the CCAA,” Morin said.
As it turns out, RVOS have many advantages over assets sales. According to Bish and Luc Morin in Norton Rose Fulbright Canada LLP’S Montreal office, they include:
❚ While court approval is necessary, creditor or shareholder votes are not required;
❚ Tax losses, not transferable in assets sales, can be preserved;
❚ The purchaser does not have to offer employment to employees; nor do purchasers have to take on pensions and benefits plans;
❚ Licences and permit, even those purporting to be non-transferable, can remain in place;
❚ Real property and intellectual property needn’t be transferred;
❚ Execution risks are minimized; and
❚ Closing certainty is maximized.
“In theory, the benefits of a share transaction should in at least some cases be of more value to purchasers than a comparable asset deal.” Bish said. “And that should result in purchasers paying a higher price, which is obviously good for the debtor and its creditors.”
The energy sector, including power, oil and gas, and renewables are among the sectors most likely to benefit from RVOS.
“The prevalence in the energy sector of permits and licences that may purport to be non-transferable, or agreements with First Nations groups that may be challenging to transfer or renegotiate, may be factors that support the use of RVO structures,” Bish said.
What has yet to play out, however, is the impact RVOS will have on the significant environmental obligations and liabilities that inform the energy sector.
“Attempts to ‘vest out’ environmental liabilities may trigger significant pushback from governmental entities,” Bish said. “So the success of a contextualized RVO structure in the energy sector may turn on the aggressiveness of the structure.”
Yet another scenario in which RVOS have been popular are instances where the value of the debtor was inferior to the secured debts.
But there are downsides to RVOS: they are complex and costly to structure and implement. So much so that Justice Gouin observed during the Nemaska hearing that the structure was among the most complicated he had ever encountered.
All this having been said, then, an RVO’S availability, desirability and viability may ultimately depend on the purchaser.
“Whoever will pay the most money for the business can usually specify the form of the transaction,” Bish said. “If purchasers want an RVO structure because of the benefits it affords and — very, very importantly — if they will pay more for that approach than they would for an asset purchase transaction, then it is worth the complexity and extra effort to implement the deal as an RVO.”
One reason that RVOS may abound is that fewer and fewer restructuring plans leave the company’s property in the hands of shareholders.
“What constitutes a successful restructuring has shifted,” Bish said. “Much more often, we see businesses sold, and those sales have traditionally been structured as assets sales for a variety of reasons, including the inability to sell shares owned by shareholders, which are not the property of the insolvent company.”
As Morin sees it, RVOS will result in a “significant diminution” of plans of arrangement.
“I actually expect that the RVO will become the predominant transactional path to effectuate and implement a restructuring in a distressed context,” he said.