SUPERIOR COURT OF JUSTICE – ONTARIO

COMMERCIAL LIST

RE: CCM Master Qualified Fund, Ltd., Applicant

AND:

blutip Power Technologies Ltd., Respondent

BEFORE: D. M. Brown J.

COUNSEL:
L. Rogers and C. Burr, for the Receiver, Duff & Phelps Canada Restructuring Inc.
A. Cobb and A. Lockhart, for the Applicant

HEARD: March 15, 2012

REASONS FOR DECISION

I. Receiver’s motion for directions: sales/auction process & priority of receiver’s charges

[ 1 ] By Appointment Order made February 28, 2012, Duff & Phelps Canada Restructuring Inc. (“D&P”) was appointed receiver of blutip Power Technologies Ltd. (“Blutip”), a publicly listed technology company based in Mississauga which engages in the research, development and sale of hydrogen generating systems and combustion controls. Blutip employs 10 people and, as the Receiver stressed several times in its materials, the company does not maintain any pension plans.

[ 2 ] D&P moves for orders approving (i) a sales process and bidding procedures, including the use of a stalking horse credit bid, (ii) the priority of a Receiver’s Charge and Receiver’s Borrowings Charge, and (iii) the activities reported in its First Report. Notice of this motion was given to affected persons. No one appeared to oppose the order sought. At the hearing today I granted the requested Bidding Procedures Order; these are my Reasons for so doing.

II. Background to this motion

[ 3 ] The Applicant, CCM Master Qualified Fund, Ltd. (“CCM”), is the senior secured lender to Blutip. At present Blutip owes CCM approximately $3.7 million consisting of (i) two convertible senior secured promissory notes (October 21, 2011: $2.6 million and December 29, 2011: $800,000), (ii) $65,000 advanced last month pursuant to a Receiver’s Certificate, and (iii) $47,500 on account of costs of appointing the Receiver (as per para. 30 of the Appointment Order). Receiver’s counsel has opined that the security granted by Blutip in favour of CCM creates a valid and perfected security interest in the company’s business and assets.

[ 4 ] At the time of the appointment of the Receiver Blutip was in a development phase with no significant sources of revenue and was dependant on external sources of equity and debt funding to operate. As noted by Morawetz J. in his February 28, 2012 endorsement:

In making this determination [to appoint a receiver] I have taken into account that there is no liquidity in the debtor and that it is unable to make payroll and it currently has no board. Stability in the circumstances is required and this can be accomplished by the appointment of a receiver.

[ 5 ] As the Receiver reported, it does not have access to sufficient funding to support the company’s operations during a lengthy sales process.

III. Sales process/bidding procedures

A. General principles

[ 6 ] Although the decision to approve a particular form of sales process is distinct from the approval of a proposed sale, the reasonableness and adequacy of any sales process proposed by a court-appointed receiver must be assessed in light of the factors which a court will take into account when considering the approval of a proposed sale. Those factors were identified by the Court of Appeal in its decision in Royal Bank v. Soundair : (i) whether the receiver has made a sufficient effort to get the best price and has not acted improvidently; (ii) the efficacy and integrity of the process by which offers are obtained; (iii) whether there has been unfairness in the working out of the process; and, (iv) the interests of all parties. [1] Accordingly, when reviewing a sales and marketing process proposed by a receiver a court should assess:

(i) the fairness, transparency and integrity of the proposed process;

(ii) the commercial efficacy of the proposed process in light of the specific circumstances facing the receiver; and,

(iii) whether the sales process will optimize the chances, in the particular circumstances, of securing the best possible price for the assets up for sale.

[ 7 ] The use of stalking horse bids to set a baseline for the bidding process, including credit bid stalking horses, has been recognized by Canadian courts as a reasonable and useful element of a sales process. Stalking horse bids have been approved for use in other receivership proceedings, [2] BIA proposals, [3] and CCAA proceedings. [4]

[ 8 ] Perhaps the most well-known recent example of the use of a stalking horse credit bid was that employed in the Canwest Publishing Corp. CCAA proceedings where, as part of a sale and investor solicitation process, Canwest’s senior lenders put forward a stalking horse credit bid. Ultimately a superior offer was approved by the court. I accept, as an apt description of the considerations which a court should take into account when deciding whether to approve the use of a stalking horse credit bid, the following observations made by one set of commentators on the Canwest CCAA process:

To be effective for such stakeholders, the credit bid had to be put forward in a process that would allow a sufficient opportunity for interested parties to come forward with a superior offer, recognizing that a timetable for the sale of a business in distress is a fast track ride that requires interested parties to move quickly or miss the opportunity. The court has to balance the need to move quickly, to address the real or perceived deterioration of value of the business during a sale process or the limited availability of restructuring financing, with a realistic timetable that encourages and does not chill the auction process. [5]

B. The proposed bidding process

B.1 The bid solicitation/auction process

[ 9 ] The bidding process proposed by the Receiver would use a Stalking Horse Offer submitted by CCM to the Receiver, and subsequently amended pursuant to negotiations, as a baseline offer and a qualified bid in an auction process. D&P intends to distribute to prospective purchasers an interest solicitation letter, make available a confidential information memorandum to those who sign a confidentiality agreement, allow due diligence, and provide interested parties with a copy of the Stalking Horse Offer.

[ 10 ] Bids filed by the April 16, 2012 deadline which meet certain qualifications stipulated by the Receiver may participate in an auction scheduled for April 20, 2012. One qualification is that the minimum consideration in a bid must be an overbid of $100,000 as compared to the Stalking Horse Offer. The proposed auction process is a standard, multi-round one designed to result in a Successful Bid and a Back-Up Bid. The rounds will be conducted using minimum incremental overbids of $100,000, subject to reduction at the discretion of the Receiver.

B.2 Stalking horse credit bid

[ 11 ] The CCM Stalking Horse Offer, or Agreement, negotiated with the Receiver contemplates the acquisition of substantially all the company’s business and assets on an “as is where is” basis. The purchase price is equal to: (i) Assumed Liabilities, as defined in the Stalking Horse Offer, plus (ii) a credit bid of CCM’s secured debt outstanding under the two Notes, the Appointment Costs and the advance under the Receiver’s Certificate. The purchase price is estimated to be approximately $3.744 million before the value of Assumed Liabilities which will include the continuation of the employment of employees, if the offer is accepted.

[ 12 ] The Receiver reviewed at length, in its Report and in counsel’s factum, the calculation of the value of the credit bid. Interest under both Notes was fixed at 15% per annum and was prepaid in full. The Receiver reported that if both Notes were repaid on May 3, 2012, the anticipated closing date, the effective annual rate of interest (taking into account all costs which could be categorized as “interest”) would be significantly higher than 15% per annum - 57.6% on the October Note and 97.4% on the December Note. In order that the interest on the Notes considered for purposes of calculating the value of the credit bid complied with the interest rate provisions of the Criminal Code , the Receiver informed CCM that the amount of the secured indebtedness under the Notes eligible for the credit bid would have to be $103,500 less than the face value of the Notes. As explained in detail in paragraphs 32 through to 39 of its factum, the Receiver is of the view that such a reduction would result in a permissible effective annual interest rate under the December Note. The resulting Stalking Horse Agreement reflected such a reduction.

[ 13 ] The Stalking Horse Offer does not contain a break-fee, but it does contain a term that in the event the credit bid is not the Successful Bid, then CCM will be entitled to reimbursement of its expenses up to a maximum of $75,000, or approximately 2% of the value of the estimated purchase price. Such an amount, according to the Receiver, would fall within the range of reasonable break fees and expense reimbursements approved in other cases, which have ranged from 1.8% to 5% of the value of the bid. [6]

C. Analysis

[ 14 ] Given the financial circumstances of Blutip and the lack of funding available to the Receiver to support the company’s operations during a lengthy sales process, I accept the Receiver’s recommendation that a quick sales process is required in order to optimize the prospects of securing the best price for the assets. Accordingly, the timeframe proposed by the Receiver for the submission of qualifying bids and the conduct of the auction is reasonable. The marketing, bid solicitation and bidding procedures proposed by the Receiver are likely to result in a fair, transparent and commercially efficacious process in the circumstances.

[ 15 ] In light of the reduction in the face value of the Notes required by the Receiver for the purposes of calculating the value of the credit bid and the reasonable amount of the Expense Reimbursement, I approved the Stalking Horse Agreement for the purposes requested by the Receiver. I accept the Receiver’s assessment that in the circumstances the terms of the Stalking Horse Offer, including the Expense Reimbursement, will not discourage a third party from submitting an offer superior to the Stalking Horse Offer.

[ 16 ] Also, as made clear in paragraphs 7 and 8 of the Bidding Procedures Order, the Stalking Horse Agreement is deemed to be a Qualified Bid and is accepted solely for the purposes of CCM’s right to participate in the auction. My order did not approve the sale of Blutip’s assets on the terms set out in the Stalking Horse Agreement. As the Receiver indicated, the approval of the sale of Blutip’s assets, whether to CCM or some other successful bidder, will be the subject of a future motion to this Court. Such an approach is consistent with the practice of this Court. [7]

[ 17 ] For those reasons I approved the bidding procedures recommended by the Receiver.

IV. Priority of receiver’s charges

[ 18 ] Paragraphs 17 and 20 of the Appointment Order granted some priority for the Receiver’s Charge and Receiver’s Borrowings Charge. However, as noted by the Receiver in section 3.1 of its First Report, because that hearing was brought on an urgent, ex parte basis, priority over existing perfected security interests and statutory encumbrances was not sought at that time. The Receiver now seeks such priority.

[ 19 ] As previously noted, the Receiver reported that Blutip does not maintain any pension plans. In section 3.1 of its Report the Receiver identified the persons served with notice of this motion: (i) parties with registered security interests pursuant to the PPSA ; (ii) those who have commenced legal proceedings against the Company; (iii) those who have asserted claims in respect of intellectual property against the Company; (iv) the Company’s landlord, and (v) standard government agencies. Proof of such service was filed with the motion record. No person appeared on the return of the motion to oppose the priority sought by the Receiver for its charges.

[ 20 ] Although the Receiver gave notice to affected parties six days in advance of this motion, not seven days as specified in paragraph 31 of the Appointment Order, I was satisfied that secured creditors who would be materially affected by the order had been given reasonable notice and an opportunity to make representations, as required by section 243(6) of the BIA , that abridging the notice period by one day, as permitted by paragraph 31 of the Appointment Order, was appropriate and fair in the circumstances, and I granted the priority charges sought by the Receiver.

[ 21 ] I should note that the Appointment Order contains a standard “come-back clause” (para. 31). Recently, in First Leaside Wealth Management Inc. (Re) , a proceeding under the CCAA , I wrote:

[49] In his recent decision in Timminco Limited (Re) (“Timminco I”) Morawetz J. described the commercial reality underpinning requests for Administration and D&O Charges in CCAA proceedings:

In my view, in the absence of the court granting the requested super priority and protection, the objectives of the CCAA would be frustrated. It is not reasonable to expect that professionals will take the risk of not being paid for their services, and that directors and officers will remain if placed in a compromised position should the Timminco Entities continue CCAA proceedings without the requested protection. The outcome of the failure to provide these respective groups with the requested protection would, in my view, result in the overwhelming likelihood that the CCAA proceedings would come to an abrupt halt, followed, in all likelihood, by bankruptcy proceedings.

[51] In my view, absent an express order to the contrary by the initial order applications judge, the issue of the priorities enjoyed by administration, D&O and DIP lending charges should be finalized at the commencement of a CCAA proceeding. Professional services are provided, and DIP funding is advanced, in reliance on super-priorities contained in initial orders. To ensure the integrity, predictability and fairness of the CCAA process, certainty must accompany the granting of such super-priority charges. When those important objectives of the CCAA process are coupled with the Court of Appeal’s holding that parties affected by such priority orders be given an opportunity to raise any paramountcy issue, it strikes me that a judge hearing an initial order application should directly raise with the parties the issue of the priority of the charges sought, including any possible issue of paramountcy in respect of competing claims on the debtor’s property based on provincial legislation. [8]

[ 22 ] In my view those comments regarding the need for certainty about the priority of charges for professional fees or borrowings apply, with equal force, to priority charges sought by a receiver pursuant to section 243(6) of the BIA . Certainty regarding the priority of administrative and borrowing charges is required as much in a receivership as in proceedings under the CCAA or the proposal provisions of the BIA .

[ 23 ] In the present case the issues of the priority of the Receiver’s Charge and Receiver’s Borrowings Charge were deferred from the return of the initial application until notice could be given to affected parties. I have noted that Blutip did not maintain pension plans. I have found that reasonable notice now has been given and no affected person appeared to oppose the granting of the priority charges. Consequently, it is my intention that the Bidding Procedures Order constitutes a final disposition of the issue of the priority of those charges (subject, of course, to any rights to appeal the Bidding Procedures Order). I do not regard the presence of a “come-back clause” in the Appointment Order as leaving the door open a crack for some subsequent challenge to the priorities granted by this order.

V. Approval of the Receiver’s activities

[ 24 ] The activities described by the Receiver in its First Report were reasonable and fell within its mandate, so I approved them.

[ 25 ] May I conclude by thanking Receiver’s counsel for a most helpful factum.

________ (original signed by) __________

D. M. Brown J.

Date : March 15, 2012

[1] (1991), 7 C.B.R. (3d) 1 (C.A.).

[2] Re Graceway Canada Co ., 2011 ONSC 6403 , para. 2 .

[3] Re Parlay Entertainment Inc. , 2011 ONSC 3492 , para. 15 .

[4] Re Brainhunter (2009), 62 C.B.R. (5 th ) 41 (Ont. S.C.J.), para. 13 ; Re White Birch Paper Holding Co ., 2010 QCCS 4382 , para. 3 ; Re Nortel Networks Corp. (2009), 55 C.B.R. (5 th ) 229 (Ont. S.C.J.), para. 2 , and (2009), 56 C.B.R. (5 th ) 74 (Ont. S.C.J.) ; Re Indalex Ltd ., 2009 CarswellOnt 4262 (S.C.J.) .

[5] Pamela Huff, Linc Rogers, Douglas Bartner and Craig Culbert, “Credit Bidding – Recent Canadian and U.S. Themes”, in Janis P. Sarra (ed.), 2010 Annual Review of Insolvency Law (Toronto: Carswell, 2011), p. 16.

[6] Re Parlay Entertainment , 2011 ONSC 3492 , para. 12 ; Re White Birch Paper Holding Co. , 2010 QCCS 4915 , paras. 4 to 7 ; Re Nortel Networks Corp. (2009), 56 C.B.R. (5 th ) 74 (Ont. S.C.J.), para. 12 .

[7] Re Indalex Ltd. , 2009 CarswellOnt 4262 (S.C.J.), para. 7 ; Re Graceway Canada Co., 2011 ONSC 6403 , para. 5 ; Re Parlay Entertainment Inc. , 2011 ONSC 3492 , para. 58 .

[8] 2012 ONSC 1299 .