DV May 8, 2003

(Following French‑Mr. Fortin continuing)

Our committees started sitting in the year 2000. We came out with an initial report in 2001. It was submitted and discussed with the members at our first meeting. Finally, in the year 2001, for the business insolvency report we had an electronic vote at our yearly meeting, where each member could vote on each of our recommendations to make sure that the full institute came to the same conclusion. Mr. Kent will outline a series of these conclusions.

The process was lengthy and many of these professions gave their time. The surprising aspect, which I would like to stress, was that no one was there with a specific axe to grind. It was an amazing thing to see these people coming forward and stating their point of view in an objective fashion and taking that from their own experience. That is how we came up with this report.

On the personal insolvency side, I will outline that part of it because the process is also important on the personal insolvency side. There was a task force also created both in the institute and in the association to come out with a report. That report came and it was also submitted to our members so our members could vote on it, and keeping in mind that most of our members are more experienced in commercial matters than they are in personal matters, but there is a sufficient number of them who are sufficiently experienced in personal matters. There again, the process was the same. We voted on each topic and members of the institute voted on each recommendation that came out in the report.

Therefore, we are very satisfied that the process was properly done, and that everyone was properly canvassed and that everyone could give their opinion. I will leave it to Mr. Kent now to tell you what the conclusions were in terms of business insolvency.

Mr. Andy Kent, ICC Board Member, Lawyer, The Insolvency Institute of Canada and the Canadian Association of Insolvency and Restructuring Professionals: Honourable senators, I have been charged by my peers to try to convince you that this is an area that merits attention. I feel somewhat inadequate to the task because its an area that can be technical and dry, but it does make a difference to our economic system, both in terms of how we deal with businesses in crisis but also in terms of how we finance business.

I have the good fortune to practice both for companies that borrow money, for banks that lend money, for companies in distress and for financial institutions that have lend money to companies in distress. I see the issue from all sides of the cube. It is an area that has an impact on our economy. In the view of those who practice in the area, it would be extremely helpful if there were further statutory reform.

I would like to talk a little bit, before we get to our specific recommendations, about why we have come to that view. The first thing is that these are old statutes. In fact, it is perhaps fair to call them ancient. If you look at the history of the Bankruptcy and Insolvency Act, there are many provisions that have been there since 1918. That act was largely derived from some of the very first bank regulatory legislation in the United Kingdom, in England, in the middle of the 1800s. I have had occasion recently to try to interpret sections of the act and was driven to going back to case law in England in the 1800s.

In England today they have totally different legislation. Their legislation has been amended substantially, completely rewritten in the intervening years. They would consider our bankruptcy law incredibly antiquated. If you look at the history of the Companies' Creditors Arrangement Act, it was brought in as emergency legislation during the Depression. Again, what was done is certain provisions were lifted out of English company law, at the time 20 sections and, again, those provisions were enacted in the 1800s. Largely, those provisions are the same today.

The core of our insolvency legislation is actually English legislation in the second half of the 1800s and it is very antiquated. What has happened in my career ‑‑ I have been practising 25 years ‑‑ is that there has been a perception in the industry that this legislation is regarded with indifference in Ottawa. In order to deal with practical problems of files, people have, on a step‑by‑step process, basically radically changed the law.

In a very real sense, when you talk about the CCAA, we no longer have a statute law at all. We really have a common law system, and it is not a particularly good common law system because there are few written judgments. Most of this happens in the courtroom on short notice with no written reasons from a judge. It is all practice.

It is quite an extraordinary evolution, and is contrary to all the theories of law I was taught when I was in law school. It works because of the quality of our judges and the professionals involved, but it is at risk on occasion of being a disaster, and it is a hard system to defend when you describe it to someone from outside our country.

On occasion it cases problems domestically. There is a simple example I can use. There was a case in Saskatchewan, in the last year or so, where a judge was asked to sign an order in an interim receivership case that an Ontario judge would have signed in five minutes. It was unopposed, but the judge took the trouble to actually read the order and wrote a long, well‑reasoned, articulate, thoughtful judgment explaining why the judge felt he did not have jurisdiction to make that order.

If you were able to time‑travel back to when I started practising law in the 1980s, if you had asked an Ontario judge to sign that order, that Ontario judge would have had exactly the same reaction. In the intervening 20 years, what has happened is we have made up a whole body of law that is not written down anywhere.

It is quite a remarkable development because every other developed country has a codified statutory driven system of insolvency law. Canada, in many ways, certainly in our big cases, no longer has such a system. It is hard to explain to a foreign financial institution that may want to consider doing business in Canada why they should have faith or trust in such a system. If you happen to be a practitioner who is knowledgeable in the area, it gives you a competitive advantage because it is very hard to explain or to understand unless you are living in it all the time.

From a policy perspective and from a theory of law perspective that is hard to justify. We have a system of laws that is intended to be open, that people can understand and read, so it is hard from a theoretical perspective to defend or justify the system. There is a strong view that there is a need for reform, and I want to talk briefly about some of the key areas.

We have made 86 specific recommendations. What was pleasing for me as part of the process was that when we voted on these proposals ‑‑ we had about 90‑odd that we voted on ‑‑ we set ourselves a two‑thirds threshold. We wanted to have at least two‑thirds support for each proposal individually to be comfortable that we were generally speaking with a strong element of consensus. Insolvency practitioners by nature tend to be cantankerous and opinionated in the nature of the business, so when I went to this meeting I had low expectations. It was pleasing that 86 of these proposals passed, and in many instances with over 90 per cent approval. It was remarkable how strong the consensus was at the time for these proposals amongst the leading lawyers and accountants in the country.

That is not to say that I even personally agree with all the proposals, and I am not here to express my personal views, I am here to be a spokesman for our report. However, the fact is there was a broad consensus on the need for reform and support of the proposals that we put forward to Industry Canada last March 2002.

In terms of the specifics, the first thing I would like to speak to, which was very much on my mind when I was involved in this, was the question of corporate governance of the debtor. We are not focussed for these purposes on what happened before the company filed or encountered a financial problem.

We are talking about how the borrower is managed during the reorganization process. What has happened in the intervening 20 years is that we have given the debtor a huge number of additional powers. If you used properly, this is a good thing, this is something for the benefit of all. It facilitates saving going‑concern businesses. If there is a business to be saved, if there are jobs to be saved, the debtor is in the best position to save the business, whether it is by selling or reorganizing the debt, whatever mechanics there are.

The debtor is clearly in the best position -- a better position than the creditors are or any individual. Giving the debtor these powers is a good thing as long as they are used appropriately. The problem is our statutes do not address governance of a debtor in the organization in any meaningful way at all. Therefore we have recommended a series of amendments that are designed to create a framework wherein the debtor would be governed during the course of a reorganization proceeding with appropriate checks and balances and court authority to address problems where there are issues. I will come back to that when I speak to DIP lending, which is linked to the issue of financing the debtor during reorganization.

The rights of shareholders have become a problem in a number of significant Canadian cases such as those involving Phillip Services in Ontario and Laidlaw. The problem is our statutes were drafted with a modest objective, which was to enable a debtor to reorganize its debts on its balance sheet ‑‑ the liabilities ‑‑ with no reference to anything else but that. The problem in a modern corporation today is that you may be faced with such things as shareholders rights claims by people who say that they have been lied to through the public markets.

In the United States, these claims are dealt with expressly in the U.S. Bankruptcy Code. Our laws have no reference to them. A large company that is filing for reorganization has a choice of where to file. If such a claim is filed in Canada, there is no facility in place to deal with it. They have no choice but to file in the U.S. where there is a vehicle to deal with these claims in a sensible, fair and reasonable way. In Canada, we have no mechanism. Thus, you end up with situations where it becomes difficult to reorganize a Canadian enterprise under Canadian law because our laws do not generally deal with shareholder claims.

There are specific corporate statutes that may deal with certain shareholder claims. For example, the Canada Business Corporations Act has provisions that touch upon this. Some provincial statutes have these provisions as well, while some do not have. It becomes a lottery, depending on where the corporation is organized, whether there is a vehicle for dealing with some of these claims or there may not be. It is a hodgepodge system. It is difficult to explain why our insolvency laws do not have a code for dealing with shareholders' claims while other reorganization systems deal with them as part of the reorganization effort.

The third area I wanted to touch on is DIP lending. Mr. Goldstein asked me to speak to this issue and then I will take your questions.

The issue of Debtor in Possession, DIP, lending is a question of how a company can be financed while attempting to reorganize. The proposals would like to facilitate DIP lending to enable companies to continue to operate and be financed while they are reorganizing. In cases where the DIP lending has become controversial, it has generally been because people have not had confidence in management and how they will spend the money. If people have confidence in how the management will spend, then they have no difficulty in seeing the money provided. In those cases where there is concern about management, people continue to fight about the financing.

I will bring this to a conclusion and entertain senators' questions.

The Chairman: Before we begin the questions, you have given us a minor dilemma, which I will ask you to clear up. Please be aware of it.

The [TSoC3] Financial Post this morning quotes you as saying, in respect of our bankruptcy concerns, that this kind of thing looks like Mickey Mouse time, and maybe it is. However, your report, on page 67, states, "Canada's experience with the two reorganization systems has generally been positive. The principle virtue of the two‑system approach responds to the fact that different types of reorganization legislation are appropriate for different types of debtors." On the one hand you say it is Mickey Mouse and on the other hand you say that it is generally positive. Will you come down on one side or the other? In other words, give us an idea of the magnitude of what we are faced with?

Mr. Kent: The quotes that you are reading from our report relate to the question of whether it is sensible to have a CCAA and a BIA that both deal with reorganization. We support the idea of a big company system and a small company system. This is the way that the U.S. Bankruptcy Code is moving. It is sensible to have two systems that are different. I stand behind that comment.

The Financial Post quote is in relation to how our system appears to people outside the country when we cannot say what the rules are on a variety of issues and where judges are in doubt about what the rules and his powers pending a difficult case that he is not sure how to handle. When that happens, internationally, it seems odd for people, from a major, developed economy, to be in such doubt about, and in such a position on, the most fundamental questions.

The Chairman: I do not want to beat this to death, but we are told that the CCAA has the benefit of being flexible and that it is not stultified by too many rules. We will come to that.

Senator Oliver: When this committee was dealing with banking restructuring, a number of witnesses appeared before the committee and said that we should not think about putting more rules and regulations on the main banks and trust companies. There are many other groups and organizations that are in the lending business that are totally unregulated. They were thinking of companies such as GE Capital.

It seems to me that GE Capital frequently comes into your area and puts up DIP financing for companies. You seem to be recommending more protection for these unregulated DIP financing groups. Before we give them priority over other people who have lent money for years and taken all the risks, should we not be looking at some other rules, such as: Should not GE Capital have to prove, first, before they receive all these protections, that the restructuring will work and that it will ultimately benefit the shareholders and the employees of the company? Should there not be such a standard?

Mr. Kent: It is often difficult at the beginning of a case to know how it will end up. It is equally difficult to predict one way or another what will happen at the beginning of the case, although the decision to provide money has to be made at the beginning of the case ‑‑ if the company needs money to operate.

Senator Oliver: What if that money had been negotiated three months before because there was no working capital, no inventory and the management knew that the end was near. At the same time, the company was out negotiating a brand new line on a few million dollars. A couple of days later they have a new line of financing in place of $20 million. Does it make a difference when that financing was negotiated?

Mr. Kent: In some ways, it is better if they start a bit sooner rather than later because the chances are better if they talk to a couple of companies. That way, there is a more competitive process and they may be able to strike the best possible, in the circumstances. If it is done on 48‑hours notice, it can be difficult to find alternatives. Certainly, when you are acting for a debtor, you would like to go through a process of a few weeks at least to try to negotiate alternatives to find money to the extent that you need it. Often, in practice, the DIP loans are not heavily used. Once you have the financing, it gives you comfort that you will be around and so people will deal with you differently.

Often, in many cases, there may be a $50 million line in place, of which the maximum borrowing was $5 million or $10 million at any given time. That gives comfort and assurance that the companies are viable and would not sufficient from administrative insolvency. As well, if you had clear rules, it would make it easier for other people to participate, including domestic institutions. It would be cheaper for people to get involved in them. It would also clarify, for existing lenders, what the risk is of having people come in and lend additional money.

We had recommended a series of considerations that a court should have in mind in deciding whether to grant a DIP in a particular case. The biggest issue is whether management is doing the right thing.

If you think management is doing the right things and they need money, most people will say, "Fine." If you do not have confidence in management then there may be concerns about letting them have the money because they may be misspending it or taking the company in a direction that does not make business or economic sense.

Senator Oliver: From your experience, is most financing from traditional lenders or capital type lenders?

Mr. Kent: It is a real mix. The first true DIP I acted on was in 1995. It was the Diale [TSoC4] x file. The second one I acted on was Eaton's in 1997. The next was for the Bank of Nova Scotia.

Since that time you will see DI [TSoC5] Ps provided by existing banks or syndicates. You will see outsiders coming in. I say this without scientific proof; probably existing lenders have done the majority of the DIPs. Most DIP lenders do not want to lend into a controversial situation in which they are not already involved and end up in the middle of a fight.

Senator Kroft: Thank you, and good afternoon. One of the pleasures of our job is that we have a chance to see that the best thinkers and practitioners in whatever the subject happens to be come before us. This is certainly the case in this study. I think all Canadians are indebted for that effort and commitment.

There is an enormous range in variety of subjects, and we are only beginning. We can find something to pick or choose amongst the long list.

The very fact that you have managed to reduce your recommendations down to 86 certainly underscores the nature of what we are up against. However, you should not feel badly. I do not know if any of you were in the room yesterday when the Department of Industry was reporting on their consultation paper. We were struggling with their reluctance to make any recommendations at all. We indeed have an open book.

You picked as one of your key areas the governance of the debt in section D of your recommendations. You talk about American and Canadian experience. I would you to summarize in a line, as a prelude to this, a response to a view I have.

There is the sense amongst business people that the American system allows a company to move through a process and emerge again as a going concern in a more effective way than is the case in Canada. That is a general observation. I am only asking for the shortest and simplest of responses to that.

Mr. Kent: There are limited statistics, but the statistics that do exist do not support that. The failure rate in Chapter 11 is relatively high. There has been much criticism in the United States about its cost and length. There are some in the United States who think chapter 11 is a very bad thing. There is no evidence that it is more successful than the CCA or RPI proposals.

Senator Kroft: Keeping in mind that insolvency is in a sense a good thing in that it indicates that someone is taking risks somewhere, and if there were no insolvency, the level of risk and entrepreneurship would probably be pretty low. However, the fact the directors remaining have to keep things moving through whatever the process is.

You have a number of recommendations in that regard. Basically, they seem designed to allow the directors to stay in place, and go on giving supervision to the operations of the company while it is going through the bankruptcy process. That seems to be the thrust.

Mr. Kent: That is correct.

Senator Kroft: I know that there are a number of provisions here. Could you summarize the insurance position? We are also engaged in a governance report currently on directors' liability and responsibility. Could you summarize what the issues are regarding the insurance protection available to directors, so that they can continue with that role in comfort, given that they were insurable?

Mr. Kent: The insurance market is dynamic these days for a variety of reasons. My understanding is that it is getting harder to get insurance for directors and officers. That market is shrinking.

There are additional products. There are now products for directors to get insurance personally, not through the company, but on their own account.

The core problem for directors insurance is that it is a claim based system. If the policy expires and the claims have not yet come to the surface, you are without coverage. The problem in the insolvency context is the claims may come to light after the policy has been terminated. We have some provisions designed to help directors with that problem. That is a core difficulty in the insolvency context.

Senator Kroft: In a very quick look over the list of specific provisions, I did not notice mention of shareholder actions. We talk about concern about creditors and positions of creditors.

Mr. Kent: There is a separate provision that shows up in the equity section that deals with the right to extinguish equity claims. If you look at proposal 62, the fourth line of 62 makes reference to security fraud claims. The U.S. bankruptcy code allows you to do what this is designed to do. It is the same thing.

Senator Kroft: I want to be clear on the position of the shareholder vis‑à‑vis the position of the creditors. The presumption is that when you went into an insolvency situation, the equity holders' position was diminished to zero. The value that remains is substantially or entirely to the credit of the creditors. After it is all finished, the residual value presumably would revert. Therefore, there is nothing there to satisfy the claim of shareholders, other than the insurance. In terms of the value that is there, the creditor steps into the place of the shareholder.

Mr. Kent: Yes, the thinking is that in most cases the shareholders are out of the money. They should not be given a veto over the process. In Peoples Jewellers in the mid 1990s, a reorganization plan failed because they made it subject to shareholder approval, and the shareholders voted against it. They went through receivership, which was seen as unfortunate.

The perception is that, in most cases, the court should have the authority to expropriate the equity. It should not be automatic because there may be cases where a company is out of cash but there is still value in it for the equity. The court should have the authority to protect equity in those cases. The court should have the power to do it, but if the equity believes it has a legitimate claim, it should be able to go to the judge and request protection in a particular case.

Senator Kelleher: Presenting to us 82 proposals is quite a smorgasbord. I have an appetite, but it is not that big. I will therefore pick and choose several things that come to my mind that seem to be contentious. One of them has to do with collective agreements. This has risen to the surface with respect to the CCAA in the Air Canada case, where Air Canada started out wanting to ignore, I guess, if you will, the existing collective agreements. Our friend who runs the court there, after hearing representations, decided, no, I guess maybe he would suspend it for now and leave that decision until later.

In any reorganization, obviously collective agreements cause quite a problem. We are noticing that in the United States as well. Can you give us a little more definitive decision in this area, or suggestions?

Mr. Kent: The report recommends that a court have a power to authorize a debtor to terminate what are called executory contracts.

Senator Kelleher: I know that.

Mr. Kent: When I originally wrote the report, I carved collective bargaining agreements out of that provision because some of the efforts for reform in the 1980s failed in this area because of the controversy over this issue. The overwhelming view of the institute members was that we should not have that carved out, that the power to terminate should apply to collective bargaining agreements, and hence our report says that. That reflects the view of the experts in the area.

In the Canada 3000 case, the company went into straight liquidation because it could not deal with its employees' situations. The reason the board resigned and left the passengers stranded all over the world was a concern about their own personal liabilities. It was a very unfortunate case, because the original Canada 3000 had been a good, little, well‑run airline, and through unfortunate acquisitions it got itself into difficulty. It could not downsize again, because it could not deal with the labour issues.

There is a concern where a company needs to quickly downsize and it has collective bargaining agreements, The collective bargaining regime was built up without this kind of problem in mind. There are many strong policy considerations that support the existing regime, but they were not designed with this particular, narrow problem in mind. This does not, fortunately, come up too often. Where it does come up, the standard labour regime is not flexible enough to respond on a timely basis. I am trying to speak for what I think is the collective view of the experts.

You do see cases where companies fail and go to liquidation because people have difficulty dealing with the collective bargaining agreements. For whatever reason, what ends up happening is that rather than facilitating a revised transaction and the continuation of the business, you end up with no business and the jobs are gone and the business is gone. People in the industry see that as an unfortunate outcome.

However, it is unclear what the authority of a CCAA judge is in this area. We have to be careful because there is a pending case. The courts are placed in a difficult position because of the lack of statutory guidance. My mickey‑mouse comment was in relation to the fact that there has not been guidance to the courts as to what they should or should not do in this area, and it would be helpful if there were guidance. The people who should make the policy decisions, rather than the judges, should make the policy decisions, whatever they should be.

Senator Kelleher: How will Mr. Justice Farley then deal with this? We all know there is really not much guidance under the act and there is not much law around. How do we deal with this? What is your suggestion? In this particular case, we cannot wait several years for the government to do legislation.

Mr. Kent: I feel a little uncomfortable because I have clients who are in the case, as we all do who are in the community, and it is a pending case before the court.

Mr. Fortin: First, I want to outline one thing. There is a recent Quebec Court of Appeal decision which is very well articulated by a very good judge. He comes out clearly stating that the only powers that seems to exist in the act at this point in time are either the power to totally repudiate a contract or to do nothing at all, but nothing in between. That is where it stands. That is one position. I do not know what will happen in Air Canada. The risk is that the unions might decide to appeal and the appellate court in Ontario will have to decide.

What has happened over the years is that it that always been done on a near‑consensual basis. Our friend Mr. Farley ‑‑ I am not under his jurisdiction, so I can say "our friend Mr. Farley" ‑‑

Senator Kelleher: Aren't you lucky.

Mr. Fortin: He seems to be willing to render an order. At the end of the day, what happens is that on a consensual basis, people tend to agree and come to some form of agreement. The problem is that there is not sufficient case law. There is no certification. There are no guidelines. We need guidelines in the law so we can decide which way.

It is a policy issue, at the end of the day. The Government of Canada has to decide whether we go route A or route B. The problem now is that we have no rules and we try to solve it in each case. Before the Air Canada thing, we were not talking about it so much. Now we are talking more about it. It is an ongoing debate.

This is true not only for collective agreements but also for executive contracts. We have to make up our mind. There are leases and things that came out in Eaton's, which were very interesting and creative, but they were just created by judges. That is where the intervention is important. We need to codify part of that, whether the judge has or does not have the power to do that. That will be a nice debate. I do not think a judge has the power to force the unions to change their contracts under the present system of law. That is my own personal opinion. The institute says and what we agreed is that we think there should be, in the law, these provisions to permit the judge to do it on a case‑by‑case basis.

Senator Kelleher: The next area I wanted to ask you about is the perennial question that keeps popping up every several years, that of a wage preference. Which one of you wants to tackle that?

Mr. Kent: We recommended that there be no special priority for wages. Many of the reports that have studied this in depth have recommended some form of insurance program as opposed to a priority.

The problem about priority is not really a creditors' problem, because if, for example, you were to create super priority over inventory and receivables, the banks, in the cases where they were lending on a secured basis, would lend less. It is not a banker's problem. Many businesses in Canada are dependent on secured operating financing. They would get somewhere between a month and two months' worth of salary less in borrowing availability.

Saskatchewan Wheat Pool, where we acted for the lenders in the latest reorganization, now has a margined operating line. A critical part of their business was making sure they had adequate availability of money to finance their business. There are big swings in funding requirements. If you were to take off a month or two worth of salary, it would put that much more of a crunch to their access to working capital.

It would hurt the businesses that, in the Canadian economy, are actually quite important, not the big ones that can borrow on an unsecured basis, but the mid‑sized businesses that are an important driver of our economy. They would get less access to secured operating financing. As someone who has acted for companies that borrow, I would say this would be a bad thing. The problem is that it would happen to everyone. The indirect, hidden cost would be much larger than the cost of whatever insurance premiums would be required.

I have never seen good statistics on what the actual losses are. The impression I have had and have read is that they are relatively low numbers. If you had an insurance scheme, the premiums would not have to be particularly large to fund them.

Senator Kelleher: Is there anyone willing to give this type of insurance?

Mr. Kent: I do not think the private markets provide it. The policy debate that has happened is whether the government should require it as an extension to employment insurance programs or whatever. That has been the debate over the years. Many reports have recommended something like that, but it has not happened.

The Chairman: Could we go back to the union contracts? In the Air Canada case, which I cannot begin to say I know very much about, it would seem that the company seeking reorganization, Air Canada, could make a very solid case of saying that their union contracts are driving them into bankruptcy.

I do not know if they are or not, but they could make a prima facie case that way. If that were the case made, why would a judge hesitate to annul them?

Mr. Kent: Part of the difficulty is that you have statutes that give certain protections. There are Supreme Court of Canada cases that say that a court's inherent jurisdiction does not extend to overriding a statute. Statute trumps inherent jurisdiction. In doing all those things, the court is relying on inherent jurisdiction, but there is a reluctance to do something that might be in contravention of a statute.

The unions will argue that inherent jurisdiction does not extend to doing something that expressly contradicts a statutory provision.

The Chairman: How does a company reorganize that is basically in bankruptcy without doing that?

Mr. Kent: We spent a year and a half working on a report because there are many things like this in our law. We have discovered a reorganization culture without the statutes to support it. We are now saying the statutes need to be amended to support that reorganization culture, because increasingly we will run into problems because there is no statutory support for many things that are being done.

The Chairman: Why do you think the statutes allow a retail company to cancel leases, which is like a lien on someone's property?

Mr. Kent: That was controversial.

The Chairman: Yet, you cannot cancel a union contract, which is a lien on someone's time.

Mr. Kent: It is a special statutory regime for collective bargaining agreements, and there are special courts to deal with disputes regarding them. With respect to leases, they are not subject to these special statutory protections. They are like any other contract. In exercising inherent jurisdiction, the court is not contradicting expressed statutory provisions.

The Chairman: I am sure are you right, but the point is that it is almost a philosophical matter. Either we want to let people reorganize, or we do not.

If they want to reorganize, we have to find out what drove them to bankruptcy in the first place. Is that too simplistic?

Mr. Kent: It is the view of the experts that it would be helpful to have a mechanic to deal with the collective bargaining agreement for companies under insolvency legislation to facilitate reorganization of companies that have significant collective bargaining responsibilities, particularly where they need to downsize. It has to happen quickly in these cases. Having to downsize, they are bleeding cash in some part of their business. They cannot afford to support it.

The Chairman: Do you think that there is something about the Canadian psyche that makes union contracts sacrosanct?

Mr. Kent: If you want to understand a country's real business and political culture ‑‑

The Chairman: In the United States, there is a statutory provision that allows you to cancel your union contract.

Mr. Kent: Yes. There is, if you want to understand how a country's business and political community operate, see how their insolvency system works in practice, not what is written on a page. You will see very quickly the differences between various countries.

If you want to understand much about Canada, study its solvency system. A foreigner coming in learns much about Canada very quickly when they interact with our insolvency system. We muddle through.

The Chairman: That is Canada.

Senator Oliver: We protect collective agreements.

Mr. Kent: We are reluctant to rock the boat. We are reluctant to do things that are controversial. We are afraid of saying Mickey Mouse in the paper because people will think that we are rocking the boat. We are understated and consistent ‑‑

The Chairman: Your report does not say Mickey Mouse.

Mr. Kent: It is an alternative dispute resolution system. Litigating would be good for me. Chapter 11 would be wonderful for me.

We have a system that is designed to encourage alternatives including dispute resolution and negotiation, which is a good thing. It is a better system.

The problem is we have not looked after it. It is getting antiquated. We need to update and codify it to support its strengths, not to take it away.

Senator Hervieux-Payette: Does that apply to the income tax that the company has to pay? Is it in the same category as the labour contract? They would receive their amount of money, no matter what?

Mr. Kent: It depends on what type of claim you are talking about. The income tax deducted from employees' cheque is given special priority. The tax on the company's profits is treated as an unsecured claim.

Senator Hervieux-Payette: There is a portion that must be paid no matter what.

Senator Moore: Thank you for being here. Mr. Kent, I am following along Senator Kroft's questions with respect to governance and your concern about how the borrower is managed in the restructuring process. You said the debtor is in the best position. Does that mean that you keep the board of directors that got the company to that point of indebtedness, or do you bring in new people? What does that mean?

Mr. Kent: One of our recommendations is to facilitate new people coming in. You should not make it mandatory, but encourage it. You need to give them protections. A critical part of the Unitel reorganization in 1995, was that we were able to create an independent committee of three wise people who helped us through the process. It is hard to do in these cases because of the concern about personal liability.

We like to encourage the board to stay in place. We like to encourage leading members of the business community to be comfortable coming in these crises and helping out.

There have been major cases where the boards have resigned because they could not cope with the personal exposure. We would like to facilitate responsible people being involved because we do believe it is better if it is done properly.

We also want to give the court the power to force that to happen, if entrenched management will not permit it. We want the safety net that if management is uncooperative that you can put an accounting firm in to replace management and still run the reorganization, not turn it into liquidation. We would like to see that a management firm could run it if they the board has lost the confidence of the important stakeholders.

Senator Moore: You keep the board and top management?

Mr. Kent: If you have the right people. We suggest that they be encouraged to bring in an independent chief restructuring officer. Part of the problem for existing management will be that if it is a reasonably well run company, they have enough people to run the business. They do not have enough people to run the business and the reorganization at the same time. A reorganization for a company is a great deal of extra work for management. One of the issues is simply resources.

Sometimes there is bad history. It may be fair or unfair, but there may be a wariness or distrust of management. It may have been earned, or it may be because they are associated with a problem. The advantage of having someone independent come in to help is that that person, if they have the confidence of the business community, can help people trust the debtor.

In the Consumers packaging case in 2001, the key thing in the case that enabled us to save the company was that through an accident of good corporate governance there was a majority of independent directors. The controlling shareholder who owned about 70 per cent of the voting rights of this company was basically moved aside as CEO.

Rightly or wrongly, he had lost the confidence of the stakeholders. An independent CEO was brought in. We had a successful process that saved six factories and thousands of jobs. The key was at the beginning of the case being able to address management. Fortuitously, we had enough independent directors to do it. If we had not, we might have ended up with liquidation.

We start with this because these tools are very helpful. They can save businesses, but they can be misused or be in the wrong hands. You need mechanics to encourage them to be used by the right people for the right purposes.

Senator Moore: If the team of management directors got a company into such deep difficulty financially, who would have confidence in them to solve the problem? I find that a clashing philosophy.

Mr. Kent: There is no iron-rule in this. There are some cases where the right thing to do is to have a new board come in on day one. I remember a very senior officer of ONY saying to me at the sanction hearing in February: “Andy, when we started this sae, we did not understand what it was all about.” We withheld information and we tried to manipulate the creditors and carry on the way we always had. It took us months to get it.” Maybe in these cases you should just throw management out on day one. That is what you should do.

We understand what was happening. In that case, management did not understand the processes involved at the outset. The problem is that many of these companies need management, maybe not at the top level but certainly at the middle‑management level because they know the business best. In some cases, it is simple bad luck ‑‑ circumstances beyond the control. It is not necessarily the case that all problems are proof that existing management are naves, rogues or are incompetent.

Senator Moore: Do you think that DIP lending should be available to companies with less than $5 million of indebtedness?

Mr. Kent: There are two schools of thought in the industry and we could not reach consensus. The first thought is: Why shouldn't small companies have the same opportunity as the big companies? The other thought is: There is a real risk of misuse of taking businesses that truly should be liquidated or should have new management and if you give them DIP money, it will prolong the agony. In the cases of small businesses, it is expensive to build the checks and balances. Some of the process would cost too much in time and energy for a small company.

Senator Moore: How was the $5 million threshold arrived at?

Mr. Kent: This committee arrived at it in 1996. There were proposals to make it $10 million but this committee was concerned that there were few businesses outside the financial centre of Canada that would owe that much. Many companies in many parts of the country would owe less than $10 million.

Senator Moore: You studied past cases and you had a sense of the experiences of bankruptcies in past cases and the level of indebtedness.

Mr. Kent: The Senate Banking Committee made this recommendation. There was evidence before the committee on this point. The Insolvency Institute of Canada had recommended a $10 million threshold but the committee, based on the evidence that it had, determined that $5 million would be appropriate because there would be a perception that the CCAA would not be accessed much outside of Ontario if it were set $10 million.

Senator Kroft: Mr. Kent, a few minutes ago you suggested that if we wanted to know how the system works, we should not read the rules, the regulations and the legislation but rather we should go to see how it works in actual cases. I was struck, in the last day or two, by a headline that said that K‑Mart emerges from bankruptcy. That is a large American Chapter 11 case. This may be an unfair question but as an observer, do you think that that same situation would have resulted in a similar company emerging from bankruptcy and entering the economy in Canada?

Mr. Kent: We have had a number of CCAA reorganizers done for retailers in Canada. I would have thought that the opportunities for reorganization would largely be the same in Canada for K‑Mart. Eaton's, the first time through, was able to reorganize. It ran into subsequent problems but the tools were in place for it to attempt to reorganize. It did reorganize successfully, as did Dylex in 1995. I am personally involved in the Cotton Ginny case for the debtor, which is still pending. There are tools for these reorganizations. There are some technical problems but, by and large, the tools are in place. If we were to write a new act, there would be a few additional rules. However, we have had many retailers and we seem to make most of their reorganizations work.

(French follows‑‑Sen. Hervieux‑Payette: J’ai une question pour M. Fortin)

BA May 8, 2003

(Take 1210 starts here, following French, Sen. Hervieux‑Payette: de cette situation)

The Chairman: I have a last question that needs just a brief answer. Should not one of the criteria for allowing DIP financing be an analysis of whether a successful reorganization is likely to take place?

Mr. Kent: That is a practical matter. It is often difficult to assess that at the beginning of a case. If the court is not persuaded that there is some reasonable prospect, fair enough; but it is often hard at the outset of a case to answer that question.

Mr. Fortin: I think it is very important to stress the fact that we do want amendments to both legislations, mostly CCAA, but we do not want to end up with the American system. That is very important. In your thinking, do not think that we want a Chapter 11. It is too expensive; the Canadian system needs improvement, but it does not need an in‑depth change. We do not want that.

The Chairman: We understand that is the prevailing wisdom.

We will continue with the examination on personal insolvency reform. We welcome our next panel of witnesses, Mr. William Courage, Mr. Alan Spergel, Mr. Stéphane LeBlond and Mr. George Lomas.

Gentlemen, welcome. Mr. Courage, do you have the courage to start off ?

Mr. William Courage, Vice‑Chair, CAIRP, trustee in bankruptcy, The Insolvency Institute of Canada and the Canadian Association of Insolvency and Restructuring Professionals: Thank you, Mr. Chairman. In this line of business, many people are very happy to meet someone with a little courage.

I am pleased to appear before your committee today with a joint delegation from the Canadian Association of Insolvency and Restructuring Professionals, CAIRP, and the Insolvency Institute of Canada, IIC. Mr. Prentice and Mr. Fortin have already told you about our two organizations.

Mr. Chairman, you have already done an exemplary job of introducing the people before you. I do not think I have to do it again. We are all trustees in bankruptcy and chartered insolvency and restructuring professionals.

We would like to make an opening statement, which will include our five priority recommendations, much like a Letterman half‑of‑a‑top‑10 list. We would then be pleased to respond to your questions on these or on any of the other recommendations contained in our joint written brief.

Our two organizations have written the joint brief in response to the recommendations of the Personal Insolvency Task Force, PITF. As noted, our submission also has the support of the Canadian Institute of Chartered Accountants, an organization representing 68,000 chartered accountants.

Our written brief and our presentation here today are based on the efforts of trustees in bankruptcy, our two organizations and of insolvency lawyers who are not members. Our recommendations are the product of hundreds of hours of examination and debate by a large number of our most experienced practitioners.

As we note in our executive summary, some recommendations may be favourable to the interests of trustees in bankruptcy; some may not be so favourable. Our interest as professional organizations in undertaking this review, and reaching consensus on our recommendations, was to assist the Government of Canada to enhance the fairness and efficiency of the personal insolvency system, and to add advance the objectives of rehabilitating the debtor, giving the debtor a fresh start, and reinforcing creditor confidence in the integrity of the system.

Mr. George Lomas, Member IIC (Personal Insolvency Committee), trustee in bankruptcy, The Insolvency Institute of Canada and the Canadian Association of Insolvency and Restructuring Professionals: We would like to point out at the outset that we agree with the PITF's majority conclusion that the personal insolvency system is basically sound. It requires incremental improvement rather than a fundamental overhaul.

It is a system in which we, as trustees, perform multiple roles. Trustees are officers of the court. In a bankruptcy, we are responsible for administering the debtor's estate on a day‑to‑day basis and maximizing the creditors' proceeds from that estate. If, instead of filing for bankruptcy, the debtor makes a consumer proposal to the creditors, we help the debtor prepare the proposal.

Even though we are chosen by debtors and advise them, they are not our clients and we are not their personal advocates. It is our responsibility to balance the competing interests of debtors and creditors. If we do have a client, it is the bankrupt estate. Trustees are charged with maintaining the integrity of the bankruptcy and insolvency system.

As trustees, we are also an interest group. However, as noted, our frame of reference in preparing our submission was the principles of the PITF and the objectives of the bankruptcy and insolvency system, rather than the self‑interest of our members. We drew upon our hands‑on experience and our in‑depth knowledge of the existing insolvency system to propose improvements.

Mr. Alan Spergel, Co‑Chair, CAIRP Personal Insolvency Practice Committee, trustee in bankruptcy, The Insolvency Institute of Canada and the Canadian Association of Insolvency and Restructuring Professionals: As Mr. Lomas said, we consider the personal insolvency system to be fundamentally sound, notwithstanding anecdotal evidence to the contrary. Critics point to cases where certain high‑income earners have pursued an unaffordable lifestyle, and then filed for bankruptcy to escape their debts.

You may recall that in March, The Globe and Mail profiled a bankruptcy lawyer who owed $300,000 in unpaid taxes when CCRA petitioned him into bankruptcy. It was his second bankruptcy in less than 10 years. The article focused on his lavish lifestyle. Most [TSoC6] insolvents, however, are people of modest means and they file for bankruptcy voluntarily and only as a last resort. For most debtors, bankruptcy is a traumatic experience. We know because we have worked with them. We are called upon to respond to the financial and emotional impact that insolvency has on debtors and creditors alike.

Today, we wish to emphasize five of our recommendations that we believe deserve priority. We have grouped these priority recommendations into two categories: Those that would enhance the fairness of the personal proposal and the bankruptcy process; and those that would streamline the process.

The first of our fairness recommendations is for the equitable treatment of the various retirement savings in bankruptcies. Today, registered retirement savings plans, except those held with insurance companies, form part of the bankrupt's estate for the general benefit of creditors. Corporate pension plans, however, are generally exempt from seizure. It is unfair that one person's retirement savings are protected but another person's are not. It is, after all, public policy to encourage Canadians to accumulate private savings, in addition to the Canada Pension Plan, CPP, for their retirement. This inequity is especially serious because a growing number of Canadians are self‑employed or do not have a corporate pension plan. We draw to your attention that the Government of Saskatchewan has recently adopted legislation to exempt all RRSPs.

We recognize that individuals have more control over their RRSPs. If all RRSPs are made exempt from seizure, an unscrupulous debtor could contribute temporarily to an RRSP in order to thwart creditors. We therefore strongly recommend mechanisms to prevent abuse. For example, debtors should be required to lock in their RRSPs or convert them to annuities so that the funds cannot be withdrawn until retirement.

(French follows: Mr. LeBlond: Notre deuxième recommandation…)

(Following French ‑‑ Mr. LeBlond continuing)

We draw your attention to the fact that during the last set of amendments in 1997, the cooling‑off period went from zero to two years. Then, only six months following that amendment, the discharge period was lengthened to 10 years, without public consultation. We urge you to reduce this period to five years and allow hardship cases to seek relief from the courts after one year.

The third of our fairness recommendations deals with the treatment of income under sections 67 and 68 of the Bankruptcy Insolvency Act, BIA. We offer our recommendation at some length in our written submission, responding to the PITF's own lengthy recommendation on this subject. In particular, we propose that pre-bankruptcy and post‑bankruptcy tax refunds should be assets of the bankrupt's estate.

The PITF noted that in recent years a number of court decisions have eroded the assets belonging to the estate. That reduces the funds available for administration of the estate and for compensating creditors. We support the PITF recommendations that would treat income in the same way that it was before those court decisions.

The first of our streamlining recommendations is to encourage more debtors to make a consumer proposal. Under this option, also known as Division II Proposal, debtors can try to reach a deal with their creditors, offering to pay a percentage of what is owed rather than file for bankruptcy. The amendments to the BIA in 1992 restricted consumer proposals to individuals with $75,000 or less in total debts, excluding home mortgage debt.

Now, more than one decade later, that $75,000 ceiling appears too low. It forces many self‑employed and higher‑income persons whose debts exceed the ceiling, into a commercial style reorganization known as Division I Proposal. This is a more costly and complicated process to administer. We advocate raising the ceiling to $250,000 for all kinds of debt, excluding home mortgages. This would enable more people to use the streamlined process as intended by the legislation.

Our second streamlining recommendation is to allow the trustee to use his professional judgment to extend the number of missed payments on a consumer proposal. Currently, a proposal automatically collapses when a debtor misses three months' worth of payments. There should be some flexibility if a debtor has been making a good faith effort but faces a temporary problem making payments, perhaps due to loss of employment.

Allowing the trustee to extend the number of missed payments to as long as six months would avoid premature collapse of a proposal. It would preserve the integrity of the proposal process, while respecting the interests of the debtor and creditors.

Mr. Courage: In summation, our message to your committee is that the personal insolvency system is working reasonably well and does not require drastic reform. However, timely enactment of several amendments to the Bankruptcy and Insolvency Act would improve the system significantly.

Mr. Chairman, we hope that our written and oral presentations prove helpful to the committee in its deliberations. We are pleased to respond to your questions.

The Chairman: Before the first questioner, could you explain to us how student loans work, for the record?

Mr. Courage: Currently, senators, if an individual student finishes his or her post‑secondary education, for which they have borrowed money, and files an assignment in bankruptcy or a consumer proposal within ten years of the date of completing those studies, those debts are not discharged.

During that ten‑year period, there is no right of appeal. The student cannot go to the court and set out hardship. The student has the benefit of the stay of proceedings under the bankruptcy, which, during the currency of the administration, prevents collection actions. However, after the bankruptcy administration is complete, perhaps two years or so, in the trustee's hands, the collection actions may resume.

If someone chooses to go bankrupt within this ten‑year period and their trustee closes the file and the stay of proceedings ends, or the protection period under the bankruptcy ends, and all other debts are discharged, the student must then wait ten years, again without right of appeal, before he or she may appear before the court and request the court for a discharge of the debt. At that time, the student is charged with the burden of declaring that there is no reasonable prospect of being able to repay the loan.

That is the current state of law. Pointing that out, in the 1997 amendments that received full consultation, it was a two‑year period. It was the 1998 budget process that bumped it to ten years without consultation. I believe submissions were made on that budget but no changes were made.

Our significant concern with the current state of affairs is that no other category of debtor is precluded from seeking relief in the courts for their debts, ever. These students are given a ten‑year hiatus [TSoC7] and we think that is inequitable. There was discussion as to whether there should be any difference for student loans. Ten years is inequitable to have no time frame to go before the court. Ten years is also too long in respect of operational efficiency. As a matter of operational efficiency we happen to think that ten years is too long, but the principle concern is that there is no right of appeal, and that is inequitable, in our opinion.

Senator Kroft: I have several questions on that last point. There is no middle ground. Obviously, your focus is the right of appeal. I do not know what we will learn about ten years or five years but could the right of appeal be separated from the time period? Is that something that we should consider? Someone could argue for leaving it at ten years but adding the right of appeal. You seem to be focusing heavily on the appeal issue.

Mr. Courage: The Personal Insolvency Task Force, PITF, did split those issues and Mr. Goldstein, Chair of the PITF, would be able to explain that to you. Definitely, it would be separable because those two issues are separable. However, as a matter of fairness, we think the right of appeal is important. We also think that five years is too long but definitely, they are separate issues.

Senator Kroft: I would like to go back to your comments on the RRSPs. You mentioned that Saskatchewan had passed legislation exempting RRSPs from the estate in bankruptcy. Could you, for our education and for the record, take us through the jurisdictional realities of what happens in this case?

Mr. Spergel: Generally, there are certain kinds of RRSPs that are covered under insurance legislation, which is generally provincial legislation. In Ontario, RRSPs with insurance companies are exempt.

My understanding about the Saskatchewan legislation is that that has now been opened up. I believe it has been passed but not proclaimed as yet. All RRSPs, whether lodged with an insurance company, which is covered by provincial legislation, or with the chartered bank or another institution, which would be charged by federal legislation, there is no differentiation. Essentially, that puts all RRSP treatment on an equal footing or an equal playing ground. There is an unfairness ‑‑ an inequality of treatment ‑‑ as it currently exists in all other provinces that I am aware of.

Senator Kroft: Does the distinction between RRSPs with insurance companies and other RRSPs speak to anything other than the defective lobbying of the insurance companies? Is there any logical or intellectual basis for that distinction?

Mr. Spergel: The lobbying has been effective but there is a different set‑up with these plans. Generally with an RRSP held by an insurance company there is a designated beneficiary, which adds some complications to the process. One might argue, on an even balance, to say that is fine to release the RRSP to the estate. However, what about the rights of the designated beneficiary? Our argument is the opposite of that such that RRSPs held by a financial institution, where there are no designated beneficiaries, do not remain exempt and are actually seizable under bankruptcy because they from part of the estate.

It is possible that someone who is putting money away for their retirement may not realize the differences between lodging their retirement savings plans with an insurance institution and a bank. They may unwittingly not protect those retirement savings and actually become the victim of differences of treatment. Even though the same monies have the same purpose, they are actually treated much differently under current bankruptcy legislation.

Senator Kroft: Your position rests on the fact that the intention of legislation creating these preferred retirement funds is for the purpose of retirement ‑‑ that there should be symmetry with pension plans and that they should be locked in with no prior‑to‑retirement withdrawal.

Mr. Spergel: Precisely.

Senator Kroft: That then brings full equity to the situation.

Mr. Spergel: Yes, it creates a much more level playing field.

Senator Kelleher: May I ask you about the summary administration in which we raised the limit from $10,000 to $15,000. When was that limit set? Do you recall?

Mr. Lomas: It was in 1997.

Senator Kelleher: I have a gut feeling that raising it to 15 is not much of an increase, given the inflationary periods we have gone through and the number of years that it will take before we get around to reforming the act again, assuming we reform it this time and given the way government moves.

Do you think that $15,000 is a tad low? What was the feeling of the committee? Was there much discussion on this point?

Mr. Spergel: We thought it was consistent with the last increase. Consistency is always an important principle, especially amongst accountants. The last raise was from $5,000 to $10,000, so we thought a natural acceleration would be up to $15,000. Arguments could certainly be raised with respect to why it should be higher, given the delays involved in raising it, when necessary.

Right now, I believe our own investigations on how many estates this is would effect would be somewhat marginal. There would not be a tremendous impact on the number of estates drawn into this. Perhaps under further study, we could find out what level would bring a greater number of administrations into the summary process, which is, indeed, streamlined.

Senator Kelleher: Given the accounting problems that have arisen in the United States, I did not realize consistency was such a strong point.

Mr. Spergel: It depends on what you are consistent with.

Senator Kelleher: I will avoid that one.

Mr. Courage: Senator Kelleher, in the actual reading of the language of the statute today, it remains at $5,000 and the $10,000 figure has occurred, I believe, through the Office of the Superintendent of Bankruptcy. It is quite possible that the superintendent could choose to increase that amount. That was one of the significant changes that occurred in 1997 ‑‑ the superintendent could keep an eye on the actual scale and tinker with it as he deemed commercial reasonableness could see fit.

We have the opportunity to speak to this body and so we thought we would put in our plug for the change. We are also able to speak to the superintendent about it on an ongoing basis.

Senator Kelleher: I am concerned about your proposal with respect to the second bankruptcy within a certain period. What was the feeling of your committee on this? Was there much division?

Mr. LeBlond: Second bankruptcies account for approximately 10 per cent of the filings this year. Most often when the debtor applies for a discharge for second bankruptcy, there is no opposition. The court considers some factors and most often the only condition to the debtor's discharge is that he receive the discharge in two to three months. There is no monetary condition to the discharge. If we go to the streamlining process that we recommend in our report, it will eliminate that process and save court time and all that goes with it. It will save a lot of paper.

Our recommendation differs from the PITF's recommendation regarding second‑time bankrupts who file within five years of the first bankruptcy. We recommend that, for those filings, the automatic discharge be at 24 months, instead of the 18 months that is suggested in the PITF's report.

Senator Kelleher: Are you not concerned that this may result in an increase in this area?

Mr. LeBlond: The creditors still have the right to oppose the debtors’ discharge, as does the trustee. Every stakeholder in the process can oppose the debtors' discharge if they consider that they are abusing the system.

The Chairman: Apropos the senator's question, I went to law school in the very early 1950s; and in 1951, we took a course on bankruptcy, which I really do not remember.

Senator Kelleher: Did you pass it, though?

Mr. Courage: Apparently.

The Chairman: The professor told us that bankruptcies were more prevalent among certain ethnic groups. However, if a person went bankrupt five or six times, it was not blight on their character; it was merely a tribute to their resiliency. Senator Kelleher, keep that in mind.

(French follows, Sen. Hervieux‑Payette: Ma question concerne)