SUPERIOR COURT OF JUSTICE – ONTARIO

(COMMERCIAL LIST)

COURT FILE NO.: CV-12-9761-00CL

DATE: 20130409

IN THE MATTER OF THE COMPANIES’ CREDITORS ARRANGEMENT ACT,

R.S.C. 1985, c. C 36, AS AMENDED

RE: IN THE MATTER OF A PLAN OF COMPROMISE OR ARRANGEMENT OF NORTHSTAR AEROSPACE, INC., NORTHSTAR AEROSPACE (CANADA) INC., 2007775 ONTARIO INC. AND 3024308 NOVA SCOTIA COMPANY, Applicants

BEFORE: MORAWETZ J.

COUNSEL:
C. J. Hill and J. Szumski, for Ernst & Young Inc., Court-Appointed Monitor

J. Wall, for Her Majesty the Queen in Right of Ontario, as Represented by the Ministry of the Environment

P. Guy and K. Montpetit, for the Former Directors and Officers Group

Steven Weisz, for Fifth Third Bank

ENDORSEMENT

Motion Overview

[1] This is a motion brought by Ernst & Young Inc., in its capacity as court-appointed Monitor (the “Monitor”) of Northstar Aerospace, Inc. (“Northstar Inc.”), Northstar Aerospace (Canada) Inc., 2007775 Ontario Inc. and 3024308 Nova Scotia Company (collectively, the “Applicants”), for approval of an adjudication process and for a final determination with respect to whether two claims submitted in the claims procedure (the “Claims Procedure”) authorized by order of August 2, 2012 (the “Claims Procedure Order”) are valid claims for which the former directors and officers of the Applicants (the “D&Os”) are indemnified pursuant to the indemnity (the “Directors’ Indemnity”) contained in paragraph 23 of the Initial Order dated June 14, 2012 (the “Initial Order”).

[2] If they are so indemnified, the D&Os may be entitled to the benefit of certain funds held in a reserve by the Monitor (the “D&O Charge Reserve”) to satisfy such claims. If they are not, then there are no claims against the D&O Charge Reserve and the funds can be released to Fifth Third Bank, in its capacity as agent for itself, First Merit Bank, N.A. and North Shore Community Bank & Trust Company (in such capacity, the “Pre-Filing Agent”).

[3] For the following reasons, I have determined that the adjudication process should be approved and that the D&Os are not entitled to the benefit of the D&O Charge Reserve.

[4] In my view, for the purposes of determining this motion, it is not necessary to determine whether the claims filed by the MOE and the D&Os are pre-filing or post-filing claims. References in this endorsement to “MOE Pre-Filing D&O Claim”, “MOE Post-Filing D&O Claim” and “WeirFoulds Post-Filing D&O Claim” have been taken from the materials filed by the parties. This endorsement includes references to those terms for identification purposes, but no determination is being made as to whether these claims are pre-filing or post-filing claims.

[5] The two claims at issue are described in proofs of claim (collectively, “the Proofs of Claim”) filed by Her Majesty the Queen in Right of the Province of Ontario as Represented by the Ministry of the Environment (the “MOE”) and by WeirFoulds LLP (“WeirFoulds”) on behalf of certain of the D&Os (“WeirFoulds D&Os”).

[6] The MOE proof of claim (the “MOE Proof of Claim”) asserts, among other things, a “Pre-Filing D&O Claim” (the “MOE Pre-Filing D&O Claim”) and a “Post-Filing D&O Claim” (the “MOE Post-Filing D&O Claim”) (collectively, the “MOE D&O Claims”), for costs incurred and to be incurred by the MOE in carrying out certain remediation activities originally imposed on the Applicants in an Ontario MOE Director’s Order issued under the Environmental Protection Act, R.S.O. 1990, c. E. 19 (the “EPA”) on March 15, 2012 (the “March 15 Order”). The basis for the D&Os’ purported liability is a future Ontario MOE Director’s Order (the “Future Director’s Order”), which the MOE intends to issue against the D&Os. According to the Monitor’s counsel, the Future Director’s Order will require the D&Os to conduct the same remediation activities previously required of the Applicants.

[7] The WeirFoulds proof of claim (the “WeirFoulds Proof of Claim”) responds to the threat of the Future Director’s Order. It asserts a Post-Filing D&O Claim (the “WeirFoulds Post-Filing D&O Claim”) by the individual WeirFoulds D&Os for contribution and indemnity against each other, and against the former directors and officers of the predecessors of Northstar Inc., in respect of any liability that they may incur under the Future Director’s Order.

[8] Neither the MOE nor the D&Os object to the Monitor’s proposed adjudication procedure.

Background to the CCAA Proceedings

[9] On May 14, 2012, the Applicants obtained protection from their creditors under the Companies’ Creditors Arrangement Act, R.S.C. 1985, c. C. 36 (“CCAA”); Ernst & Young Inc. was subsequently appointed as the Monitor (the “CCAA Proceedings”).

[10] A number of background facts have been set out in Northstar Aerospace, Inc. (Re), 2012 ONSC 4423 (Northstar) and Northstar Aerospace, Inc. (Re) 2012 ONSC 6362. A number of the issues with respect to MOE’s claims against the Applicants have been covered in a previous decision. See Northstar, supra.

Directors’ Indemnification and Directors’ Charge

[11] The Initial Order provided that the Applicants would grant the Directors’ Indemnity, indemnifying the D&Os against obligations and liabilities that they may incur as directors and officers of the Applicants after the commencement of the CCAA Proceedings.

[12] Paragraph 23 of the Initial Order provides:

23. This court orders that the CCAA Entities shall indemnify their directors and officers against obligations and liabilities that they may incur as directors and officers of the CCAA entities after the commencement of the within proceedings, except to the extent that, with respect to any director or officer the obligation or liability was incurred as a result of the director’s or officer’s gross negligence or wilful misconduct.

[13] Paragraph 24 of the Initial Order further provides that the D&Os and the chief restructuring officer would have the benefit of a charge, in the amount of US$1,750,000, on the Applicants’ current and future assets, undertakings and properties, to secure the Directors’ Indemnity (the “Directors’ Charge”).

[14] The Directors’ Charge, as established in the Initial Order, was fixed ahead of all security interests in favour of any person, other than the “Administration Charge”, “Critical Suppliers’ Charge” and the “DIP Lenders’ Charge”.

[15] The statutory basis for the Directors’ Charge is set out in section 11.51 of the CCAA, which reads as follows:

11.51(1) On application by a debtor company and on notice to the secured creditors who are likely to be affected by the security or charge, the court may make an order declaring that all or part of the property of the company is subject to a security or charge – in an amount that the court considers appropriate – in favour of any director or officer of the company to indemnify the director or officer against obligations and liabilities that they may incur as a director or officer of the company after the commencement of proceedings under this Act.

11.51(2) The court may order that the security or charge rank in priority over the claim of any secured creditor of the company.

[16] Any order under this provision affects, or potentially affects, the priority status of creditors. It is through this lens that the court considers motions. The order is discretionary in nature, is extraordinary in nature and should be, in my view, applied restrictively as it alters the general priority regime affecting secured creditors. In this case, the order was made and it has priority over Fifth Third Bank.

D&O Claims

[17] On August 2, 2012, the Claims Procedure Order was issued to solicit the submissions of Proofs of Claim by the claims bar date of October 23, 2012 (the “Claims Bar Date”) in respect of all “D&O Claim[s]”.

[18] As indicated by the Monitor’s counsel, the definition of a “D&O Claim” is very broad. It includes both claims that arose prior to June 14, 2012 (pre-filing D&O claims) and claims that arose from and after June 14, 2012 (post-filing D&O claims). It also potentially includes both post-filing D&O claims which are secured by the Directors’ Charge and post-filing D&O claims which are not secured by the Directors’ Charge.

[19] Paragraph 25 of the Claims Procedure Order specifically recognizes this distinction:

25. This court orders that no Post-Filing D&O Claim shall be paid by the Monitor from the D&O Charge Reserve without the consent of the Pre-Filing Agent and the CRO Counsel and D&O Counsel or further Order of the court and the determination that a claim is a Post-Filing D&O Claim does not create a presumption that such D&O Claim is entitled to be paid by the Monitor from the D&O Charge Reserve.

[20] The MOE D&O Claims concurrently asserts the MOE Pre-Filing D&O Claim and the MOE Post-Filing D&O Claim for the same amounts, namely:

(a) $66,240.36 for costs incurred by the MOE to carry out the remediation activities described in the March 15 Order up to the date when the MOE Proof of Claim was filed;

(b) $15 million for future costs to be incurred by the MOE to carry out the remediation activities described in the March 15 Order; and

(c) a presently unknown amount required to conduct additional environmental remediation work necessary to decontaminate the Site and the Bishop Street Community.

[21] As there are no funds available for distribution to unsecured pre-filing creditors in the CCAA Proceedings, the Monitor appropriately has not considered the validity of the MOE Pre-Filing D&O Claim. This motion, from the Monitor’s standpoint, therefore only addresses the MOE Post-Filing D&O Claim.

[22] The WeirFoulds Proof of Claim provides that:

This proof of claim is filed in order to preserve the right to commence:

(1) any and all claims over that any of the [WeirFoulds D&Os] may have against each other; and

(2) any and all claims that any of the [WeirFoulds D&Os] may have against any former director or officer of Northstar Aerospace, Inc., or predecessor companies, for contribution or indemnity, based upon any applicable cause of action in law or in equity, in relation to any liability that may be found to exist against any of the [WeirFoulds D&Os] in connection with the proofs of claim filed in the within proceedings by the Ontario Ministry of the Environment, dated October 19, 2012.

[23] For the purpose of resolving the entitlement of any claimant to the D&O Charge Reserve, paragraph 22 of the Claims Procedure Order allows the Monitor and certain other parties to bring a motion seeking approval of an adjudication procedure for determination as to whether any claim asserted in the Claims Procedure is a post-filing D&O claim which constitutes a claim for which the D&Os are indemnified under the Directors’ Indemnity.

Issues to Consider

[24] The D&Os are bringing a motion on April 18, 2013 to determine the proper venue for the adjudication of the Post-Filing D&O Claims. There is considerable overlap between the issues raised on this motion and the issues raised on the pending motion.

[25] In my view, it is appropriate for this endorsement to exclusively address the narrow issue raised in this motion, namely, whether the Proofs of Claims are valid claims for which the D&Os are indemnified pursuant to the Directors’ Indemnity contained in the Initial Order. A consideration of whether the claims are pre-filing claims or post-filing claims, with respect to the D&Os, is better addressed in the motion returnable on April 18, 2013.

[26] The Monitor’s counsel appropriately sets out the issues of this motion, as follows:

(a) Whether the court should approve the proposed adjudication process and issue a determination as to whether the disputed post-filing D&O claims constitute valid claims for which the D&Os are indemnified under the Directors’ Indemnity;

(b) Whether the MOE Post-Filing D&O Claim is a valid claim for which the D&Os are indemnified under the Directors’ Indemnity;

(c) Whether the WeirFoulds Post-Filing D&O Claim is a valid claim for which the D&Os are indemnified under the Directors’ Indemnity; and

(d) Whether the D&O Charge Reserve should be released and paid over to the Pre-Filing Agent.

Analysis and Conclusion

[27] I conclude, for the following reasons, that (a) the adjudication process should be approved; (b) the MOE Post-Filing D&O Claims are not claims for which the D&Os are indemnified under paragraph 23 of the Initial Order; (c) the WeirFoulds Post-Filing D&O Claims are not claims for which the D&Os are indemnified under paragraph 23 of the Initial Order; and (d) the D&O Charge Reserve should be paid over to the Pre-Filing Agent.

[28] The Directors’ Charge, as contemplated by section 11.51 of the CCAA, is appropriate in the current circumstances (notwithstanding it being a discretionary and extraordinary provision, as outlined above) because it is directly tailored to the purposes of creating a charge, and its impact is limited.

[29] The purpose of a section 11.51 charge is twofold: (1) to keep the directors and officers in place during the restructuring to avoid a potential destabilization of the business; and (2) to enable the CCAA applicants to benefit from experienced board of directors and experienced senior management. Courts have accepted that, without certain protections, officers and directors will often discontinue their service in CCAA restructurings. See Canwest Global Communications, Re (2009), 2009 55114 (ON SC), 59 C.B.R. (5th) 72 (Ont. S.C.J.) and Canwest Publishing Inc., Re, 2010 ONSC 222.

[30] In this case, the Applicants’ basis for seeking the Directors’ Charge is set out in the affidavit of Mr. Yuen, sworn June 13, 2012, which was filed in support of the Initial Order application. He described the purpose of the Directors’ Charge as:

To ensure the ongoing stability of the CCAA Entities’ business during the CCAA period, the CCAA Entities require the continued participation of the CRO and the CCAA Entities’ officers and executives who manage the business and commercial activities of the CCAA Entities.

[31] The Yuen affidavit goes on to identify the specific obligations and liabilities for which the Directors’ Charge was requested, including liability for unpaid wages, pension amounts, vacation pay, statutory employee deductions and HST. At paragraph 143 of his affidavit, Mr. Yuen states:

I am advised by Daniel Murdoch of Stikeman Elliott LLP, counsel to the CCAA Entities, and do verily believe, that in certain circumstances directors can be held liable for certain obligations of a company owing to employees and government entities. As at May 18, 2012, the CCAA Entities were potentially liable for some or all of unpaid wages, pension amounts, vacation pay, statutory employee deductions, and HST (Harmonized Sales Tax) of approximately CDN $1.65 million …

[32] The Monitor’s counsel submits that the quantum of the Directors’ Charge was tailored to the Applicants’ existing liability for such amounts.

[33] The scope of a section 11.51 charge is limited in several ways:

(a) section 11.51 does not authorize the creation of a charge in favour of any party other than a director or officer (or chief restructuring officer) of the companies under CCAA protection;

(b) section 11.51 does not authorize the creation of a charge for purposes other than to indemnify the directors and officers against obligations and liabilities that they may incur as a director or officer of the company after the commencement of its CCAA Proceedings; and

(c) section 11.51(4) requires the court to exclude from the section 11.51 charge the obligations and liabilities of directors and officers incurred through their own gross negligence or wilful misconduct.

[34] In my view, it would be inappropriate to determine that the Proofs of Claim are claims for which the D&Os are entitled to be indemnified under the Directors’ Indemnity, as doing so would wrongly and inequitably affect the priority of claims as between the MOE and the Fifth Third Bank.

[35] In the context of the MOE claims against the Applicants in these CCAA proceedings, it has already been determined, in Northstar, supra, that the MOE claims are unsecured and subordinate to the position of Fifth Third Bank. It would be a strange outcome, and invariably lead to inconsistent results, if the MOE could, in the CCAA Proceedings, improve its unsecured position against Fifth Third Bank by issuing a Director’s Order after the commencement of CCAA Proceedings, based on an environmental condition which occurred long before the CCAA Proceedings. This would result in the MOE achieving indirectly in these CCAA Proceedings that which it could not achieve directly.

[36] Simply put, the activity that gave rise to the MOE claims occurred prior to the CCAA proceedings. It is not the type of claim to which the Directors’ Charge under section 11.51 responds. Rather, in the CCAA proceedings, it is an unsecured claim and does not entitle the MOE to obtain the remedy sought on this motion. The fact that the MOE seeks this remedy through the D&Os does not change the substance of the position.

[37] The situation facing the Applicants, the Monitor, Fifth Third Bank, and others affected by the Directors’ Charge, has to be considered as part of the CCAA Proceedings. In my view, it would be highly inequitable to create a parallel universe, wherein certain MOE claims as against the Applicants are treated as unsecured claims and MOE D&O Claims and the WeirFoulds Post-Filing D&O Claim are treated as secured claims with respect to the Directors’ Charge.

[38] It could be that the MOE has a remedy against the D&Os; however, any remedy they may have does not provide recourse against the D&O Charge in these CCAA Proceedings. Nevertheless, it remains open for the MOE to pursue its claims against the D&Os on the motion returnable on April 18, 2013.

Order

[39] In the result, I grant the Monitor’s motion, approve the aforementioned adjudication process, and approve the activities of the Monitor as described in the Seventh Report of the Monitor dated November 7, 2012. I also direct the following:

(1) The MOE Post-Filing D&O Claim is not a claim for which the D&Os are indemnified under the Directors’ Indemnity;

(2) The WeirFoulds Post-Filing D&O Claim is not a claim for which the D&Os are indemnified under the Directors’ Indemnity; and

(3) The US$1,750,000 held by the Monitor in respect of the D&O Charge Reserve be paid to the Pre-Filing Agent.

MORAWETZ J.

Date: April 9, 2013