Never before in history have businesses of all sizes and of all or almost all industries faced a crisis resulting from a simultaneous decline of supply and demand. The resulting liquidity crisis is creating pervasive insecurity among the managers of businesses and the stakeholders of those businesses, including their employees, shareholders, customers, suppliers, creditors and the communities in which the businesses operate.
For some, the government measures announced to date will temporarily ease the strain by providing access to credit, while for others these measures will be insufficient to cushion the blow.
What should be done and what are the alternatives for businesses that do not want to add debt or simply do not have access to liquidity? Below, we share with you a high-level review of some of the available options we would be pleased to explore with you in greater detail at any time.
Informal workout through agreements with your creditors
When a company is facing short-term financial difficulties or liquidity problems, it can undertake several measures as an alternative to a formal restructuring process, or before resorting to such a process.
The company may enter into a forbearance agreement with one or more of its creditors, allowing it to obtain a grace period during which the creditor agrees to tolerate certain defaults and/or to grant a payment moratorium, and to forbear from the exercise of its rights and recourses. In return, the company undertakes to comply with certain conditions, such as granting additional security, implementing a turnaround plan, selling non-core assets or trying to conclude transaction in order to improve its financial situation.
Depending on the context, there are two key hurdles that can undermine a company’s attempt to complete an informal workout. First, many of the restructuring tools available in a formal proceeding, such as the possibility of granting a prior-ranking charge to an interim lender, the stay of proceedings or the termination of leases and other contracts, are not available – and may be required to effect a turnaround. Second, in order to succeed, the company must obtain the consent of all or almost all of its creditors, which can be difficult, if not impossible.
Formal restructuring: federal insolvency laws to the rescue of distressed businesses
In Canada, two main insolvency regimes are available in respect of companies in financial difficulty. Because of its flexibility, the most commonly used Canadian regime for larger companies or complicated restructurings is the Companies’ Creditors Arrangement Act (the “CCAA”). The CCAA regime applies only to debtor companies with more than $5 million in debt. Companies with less than $5 million in debt or more straightforward restructurings may use the proposal sections of the Bankruptcy and Insolvency Act (the “BIA”). In these two similar regimes, the ultimate goal is to reach an agreement, respectively referred to as a plan of arrangement or a proposal, with creditors to allow the business to continue and compromise or reschedule the repayment of debts. The plan or proposal may include an additional investment, the sale of non-core or unprofitable assets, the use of future profits or a combination of these alternatives.
Under the formal restructuring processes in the BIA and CCAA, the company remains in control of its assets and continues its operations (“debtor-in-possession”), accompanied by a restructuring professional to oversee the process, the monitor (CCAA) or the proposal trustee (BIA).
The CCAA and the BIA provide an array of tools for businesses to restructure their finances and operations, which create the conditions for a successful restructuring
The CCAA and the BIA provide companies with an array of tools to help them restructure their operations and finances. These tools, which may be ordered by the supervising court in appropriate cases, include:
- The stay of proceedings, preventing creditors from taking actions against the company or its property;
- The possibility of securing non-traditional financing from existing or specialized lenders. Because the court can grant a security interest that ranks ahead of existing lenders, it can be easier to secure additional financing;
- The stay prohibiting anyone from terminating or modifying an agreement as a result of non-payment or the initiation of the restructuring process;
- The power to terminate unprofitable contracts and thus to terminate all future obligations that negatively impact the profitability of a business. For example, a business may be able to terminate one or more leases;
- The ability to grant directors a priority charge to secure certain obligations for which they may have personal liability, in order for them to focus on the restructuring. In addition, a formal process may provide peace of mind for directors by ensuring that difficult decisions that could expose directors to claims and liability outside a process are supervised by the court officer and subject to court approval upon notice to interested parties;
- The potential to pay certain key suppliers for amounts incurred prior to the proceeding to ensure continued supply even when the majority of creditors are not paid in respect of pre-filing invoices;
- The possibility to apply to the court to compel a key supplier, essential to your operations, to continue to deliver goods and services on terms the court determines;
- In the event that the sale of certain assets is required in order to reduce expenses, finance the restructuring or liquidate non-core assets, the ability to obtain court approval of the sale, which can provide greater certainty for buyers and authorize the transaction free of any security, without the need to obtain shareholder or creditor approval;
- The possibility of assigning contracts without the need to obtain the prior consent of the other party to the contract;
- Where recapitalization is required, the possibility of modifying the company’s capital structure for the benefit of the new investor.
Initiation of the restructuring process
A CCAA proceeding is initiated by an initial order from the court, upon an application by the moving party. The BIA process is initiated administratively through the filing of a Notice of Intention to File a Proposal to Creditors with the assistance of a trustee.
The initiation of a formal restructuring process results in a stay of proceedings and a limitation of rights as discussed above. This means, first, that creditors may not commence or continue actions, executions or other proceedings against the company or its property and, secondly, that counterparties may not terminate or modify a contract or rely on a forfeiture clause as a result of the insolvency or the commencement of the restructuring process.
A company that initiates a formal restructuring process is required to honour obligations that arise after the initiation of the process. This means that the company will have to pay for goods delivered and services rendered after the initiation of the process in the normal course of business. These obligations may not be compromised as part of the arrangement (CCAA) or proposal (BIA).
The stay of proceedings is initially for a period of 10 days (CCAA) and 30 days (BIA). It may be extended by the court for a maximum of 45 days for each extension in a process under the BIA for a maximum of five months of extension in total. Under the CCAA, there is no maximum time limit for the extensions and the duration of the restructuring process.
Emerging from the restructuring process
The company can file a plan of arrangement (CCAA) or a proposal (BIA) and call a meeting of creditors. The creditors are divided into categories and vote on the arrangement or proposal. Each category of creditors must approve the arrangement or proposal under a “double majority”:
- More than 50% by number of voting creditors;
- Representing at least 2/3 of the value of the claims of voting creditors.
If the arrangement or proposal is approved by the double majority, it is submitted to the court for approval. That means that, subject to the fulfilment of the company’s obligations under the arrangement or the proposal, all debts and obligations of the company prior to the initiation of the process or arising from the termination of contracts as part of the process are compromised.
By taking the time to understand the different restructuring alternatives available, business people at the helm of distressed companies will be able to take advantage of the various mechanisms available. Significant changes in the economy call for significant changes in business dealings – and given the pervasive nature of the current challenges any stigma formerly associated with restructuring processes has been greatly reduced. In the current environment, the restructuring processes, briefly reviewed here, will undoubtedly be useful and important tools in many situations resulting from the current severe economic shock.
By Sean F. Collins, James D. Gage, Walker W. MacLeod, Heather L. Meredith and Jocelyn Perrault
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