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Canadian Bankruptcy and Insolvency Act Reform--A Time for Input!

May 2002 is the legislated date in Canada for reform of the Bankruptcy and Insolvency Act (BIA) and the Companies Creditors Arrangement Act (CCAA), the main federal Canadian insolvency statutes.

Prior to submission of reports to the Canadian Parliament in May 2002, discussion papers on commercial and consumer issues will be published seeking feedback from stakeholders. This will afford an excellent opportunity for credit and finance professionals to ensure that provisions important to the trade credit industry are considered and included in the new legislation.

The Corporate Law Policy Directorate of Industry Canada (Industry Canada) is spearheading the reform process. Discussion papers are being produced by the task forces established by the Office of the Superintendent of Bankruptcy (OSB), the Canadian Insolvency Practitioners Association and the Insolvency Institute of Canada, among others, and will be divided between commercial and consumer issues.

Commercial issues

Industry Canada identifies two key objectives for commercial insolvency law in today's global knowledge-based economy as efficiency and fairness. It defines the efficiency objective as assisting the economy in using its material and human resources to the best advantage and producing the highest possible output of goods and services. The fairness objective is to help ensure that the value preserved in insolvencies is distributed fairly and that the losses involved do not fall disportionately on the weaker parties.

Industry Canada's paper "Insolvency Law in the Global Knowledge-Based Economy" suggests that in an economy committed to competition, insolvency law should help competitive forces work effectively. It further states that Canadian insolvency law for the global economy and its growing integration in the North American economy should minimize the difficulties involved in working out international financing arrangements and managing cross-border insolvencies. Multilateral initiatives to promote more uniform insolvency legislation internationally should be carefully examined, and adoption of uniform laws should be considered in Canadian insolvency reform.

The central corporate issues under consideration for reform are generally as follows:

1. Unpaid supplier claims

Is the current protection adequate or should a super-priority protection be provided?

Current legislation provides unpaid suppliers the right to repossess (revendicate) goods by serving the purchaser with a written demand for repossession within 30 days after the delivery date of the goods to the purchaser, provided that the goods are: (a) identifiable, (b) in the same state as when delivered and (c) unsold. This right is enforceable in receivership or bankruptcy situations but not under a proposal.

Recommended changes and reforms include:

* Return of goods delivered within 15 days before bankruptcy, receivership or reorganization, provided demand is served within 30 days after the proceedings.

* Adoption of the US model, which permits goods to be reclaimed if demand is made within 10 days of delivery.

* Holding directors personally liable for stocking up or for the value of unpaid goods and services bought within a certain number of days prior to bankruptcy, receivership or reorganization proceedings, unless purchases can be shown to be in the ordinary course of business.

* Granting suppliers a statutory charge over current assets for goods and services delivered within 15 days.

* Allowing suppliers to buy goods back at a price as offered by a liquidator.

This right of revendication protects against "bulking up" of inventory prior to a proceeding so as to improve results for secured creditors (and quite likely their guarantors), at the expense of unsecured suppliers.

Since a commercial debtor requires access to its inventory to carry on business during a rehabilitation process, the 30-day goods provision does not apply to a proposal. Some debtors choose to liquidate their assets through a proposal, the primary motivation (some would argue), being to avoid the 30-day goods revendication provision. This would amount to a bankruptcy or receivership type of liquidation under the guise of a proposal, and unpaid suppliers justifiably will complain that the form of process triumphed over the substance.

2. BIA/CCAA consolidation

Is consolidation necessary to provide fair and efficient reorganizations for both small and large restructurings?

General considerations will focus on whether or not to collapse the CCAA into the BIA, integrating the BIA proposal provisions into the CCAA or to harmonize the two statutes. Further considerations will be made towards providing consistency of duties and responsibilities of monitors and trustees to integrate similar requirements under CCAA and BIA, (for example, preparation of cash flow statements, material adverse change reports, etc.). It is suggested that a more fully integrated regime, with both small and large business schemes included in the BIA might yield administrative benefits and efficiencies.

3. Interim financing

Are the procedures for interim financing during CCAA/BIA proposal and interim receivership adequate to allow an enterprise to carry on business, including debtor-in-possession financing and primary liens?

Considerations will include:

* BIA and CCAA explicitly setting out the circumstances when financing should be permitted.

* BIA allowing debtors to use proceeds of inventory and receivables.

* Under CCAA case law, terms of superpriority financing on a balance of prejudices test.

* The USA model, where, priority financing requires evidence of "cushion of collateral" or adequate protection.

* Preferred status granted to post-notice of intention suppliers.

* Duties and responsibilities of trustee/monitor in relation to material adverse changes.

Insolvency law will consider enhancing the status of new loans to reorganize insolvent debtors. The objective is, of course, to encourage value-enhancing reorganizations rather than terminal liquidations.

4. Contractual rights

If contracts are fundamental to the marketplace, what are the appropriate constraints on contractual rights in insolvencies?

Continuing performance, disclaimer, amendment and assignment of executory contracts, and rights of set-off under the executory contracts are under review. Division I proposals under the BIA provide that contracts may not be terminated by reason of insolvency.

Leases, licences and utilities supply contracts cannot be terminated solely because rents, royalties or utility charges are in default. Real property leases may be disclaimed, and landlords will have to make claims for damages or estimate the damages according to a prescribed formula. The issues to be addressed relate to whether or not the BIA should specifically permit all onerous contracts to be eliminated and good ones to be retained.

Under CCAA, the Courts often exercise broad discretion to prevent termination of valuable contracts and to permit the disclaimer of onerous ones. In some cases, payments of arrears have not been required. This area is unsettled and consistency of treatment is required.

The philosophy that contracts allow participants to allocate risk amongst themselves, agreeing in advance on their respective rights and various contingencies (including insolvencies), and on the procedures to be followed should these contingencies materialize, should be congruent with insolvency law. Contractual rights have important implications for innovation and entrepreneurship. Insolvency law places constraints on contractual rights intended to enhance value by preventing the premature break up of insolvent enterprises and ensuring that liquidation, if necessary, is effectively carried out. These seek to adjust contractual rights to better enable the resources of insolvent firms to be put to their best use either through reorganization, sale as going concerns, or dissolution, if appropriate. Insolvency law places constraints and contractual rights are also intended to achieve a fair distribution of value in insolvencies to those weaker parties less able to protect themselves.

5. Preferences and reviewable transactions

Is a modernization of BIA provisions required?

Under consideration is whether these types of transactions should be incorporated into CCAA proceedings. As well, the application of provincial preferences, fraudulent conveyance and corporate law remedies are subject to review. There appears to be a need to develop a national standard.

6. Directors' personal liability for corporate debt

What incentives are needed to encourage directors to consider creditors' interests in insolvency situations?

A mechanism to give directors greater protection for the release of claims against them, clarification of directors' roles and duties, and a mechanism to replace directors and/or senior management is under review. Specific consideration will include whether amendments are necessary to free directors from liability for specified debts (unpaid wages, vacation pay, goods and services taxes, provincial sale tax, remittances, source deductions, environmental damage) accruing within a short period before or after bankruptcy or reorganization proceedings commenced. It is now recognized that when directors' liabilities and provisions impose high risk on directors, qualified persons are discouraged from accepting directorships, with a substantial negative impact on efficiency and the chance for a successful reorganization.

In addition, sanctions for director and officer conduct that are detrimental to creditors are under consideration. Expanding directors' duties to look after creditors' interests when their companies become insolvent requires examination for possible incorporation into the insolvency law.

7. Crown claims

Is the current protection for federal and provincial crown claims appropriate?

This area is constantly under review for suitable revision, with the objective of fairness.

8. Wage and pension fund protection

Is the status quo adequate or do wage and pension fund claims need a better protection? Options to increase this protection include full or partial super priorities and wage protection funds.

9. International insolvencies

Should the UNCITRAL Model Law on cross-border insolvencies apply?

Under consideration are various comity principles.

10. E-commerce

Are there unique problems associated with the insolvencies of these businesses?

There is a need to deal with intellectual property rights and information technology insolvency issues that have arisen in the new economy. This issue is particularly highlighted with the recent high rate of dot-com failures.

Consumer issues

The rapid escalation in the number of personal bankruptcies over the years is a matter of great concern. According to the OSB, the fundamental purpose of bankruptcy legislation is to maximize the realizations in an insolvent debtor's estate, and distribute the proceeds amongst the creditors quickly and efficiently. The OSB recognizes, however, that consumer insolvencies need to be viewed not only in strict legal terms, but also in socioeconomic terms. Recommendations for reform must address the objectives of fairness, efficiency, accessibility, predictability, responsibility, understandability and effectiveness. These criteria definitions may be found on the web site of the OSB at http://OSBbsf.gc.ca.

Issues in the consumer area are as follows:

Consumer credit availability and debtor responsibility--Should the BIA provide incentives for debtors to take on and for creditors to provide reasonable but not excessive, amounts of consumer debt?

Registered Retirement Savings Plans (RRSP) and other exemptions--Should RRSPs be exempt from seizure in a bankruptcy? Should there be a uniform standard of exemptions across Canada in cases of bankruptcy? Currently in bankruptcy, debtors' assets are exigible unless exempted under provincial legislation.

Consumer liens--Should consumer liens be established or recognized?

Wage assignments--Should wage assignments be recognized?

Process--Can a consumer bankruptcy process be administratively streamlined while maintaining essential services? Where there are little or no prospects of a dividend, the process must give creditors confidence in the integrity of bankruptcy and insolvency system.

Summary

The main objectives of the Canadian bankruptcy and insolvency system include:

* fairness in dealing with stakeholders;

* efficiency in distributing debtor's assets;

* deterrence to fraud;

* debtor rehabilitation;

* assert the need for responsible actions by debtors; and

* preservation of jobs and the businesses that create them.

Credit and finance professionals see the impact of legislation and its interpretation by the courts on stakeholders in Canada's bankruptcy and insolvency process on a day-to-day basis. Bankruptcy and Insolvency reform provides an excellent opportunity to impact change. All stakeholders are encouraged to avail themselves of this excellent opportunity.

Further information on the status of the Canadian Bankruptcy and Insolvency Act Reform can be obtained from Industry Canada's web site at http://strategis.ic.gc.calclpd.

Bryan A. Tannenbaum, FCA, CIP is a trustee in bankruptcy and president of Mintz & Partners Limited in Toronto, Ontario, Canada.
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Author:Tannenbaum, Bryan A.
Publication:Business Credit
Article Type:Brief Article
Geographic Code:1CANA
Date:Sep 1, 2001
Words:1921
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