CITATION: Hush Homes Inc. (Re), 2015 ONSC 370

COURT FILE NO.: CV-14-10800-00CL

DATE: 20150119

SUPERIOR COURT OF JUSTICE - ONTARIO

IN THE MATTER OF THE COMPANIES’ CREDITORS ARRANGEMENT ACT, R.S.C. 1985, c. C-36, AS AMENDED

AND IN THE MATTER OF A PROPOSED PLAN OF COMPROMISE OR ARRANGEMENT OF HUSH HOMES INC., HUSH INC., 2122763 ONTARIO INC. and 2142301 ONTARIO INC.

BEFORE: Penny J.

COUNSEL: Kyla Mahar and Asim Iqbal for the Applicants

Kyle Peterson for MarshallZehr

Robin Dodokin and David Fenig for Diversified Capital Inc.

Sanja Sopic for VS Capital

Brian Empey for CVC Ardellini Investments

G. Benchentrit for the proposed Monitor

Leonard Loewith for the City of Mississauga

HEARD: January 15, 2015

ENDORSEMENT

[1] This is an application for an initial order under the Companies’ Creditors Arrangement Act, R.S.C. 1985, c. C-36. The application seeks an order:

(a) appointing the Fuller Landau group as Monitor of the applicants in these proceedings;

(b) staying all proceedings and remedies in respect of the applicants or any of their property, except as otherwise prescribed;

(c) authorizing the applicants to enter into a debtor in possession credit facility of up to $3 million and granting a DIP lender’s charge over the applicants’ assets;

(d) granting an administrative charge and directors’ charge over the applicants’ assets; and

(e) authorizing the applicants to prepare a plan of compromise and arrangement for the consideration of the creditors of the applicants.

[2] Each of the applicants is an Ontario incorporated company. Each is wholly owned and controlled by Naheel Suleman.

[3] Each of the applicants, except Hush Inc., which is a bare trustee, owns a residential development project in Mississauga or Oakville. I shall, where necessary, collectively refer to all three of these developments as the Projects.

[4] Each of Hush Homes Inc., 2122763 Ontario Inc. (Thornyco) and 2142301 Ontario Inc. (Silverthornco) has liabilities in excess of $5 million, with total liabilities of $64.9 million, including $46.9 million of current mortgage debt against the projects. The liabilities of each of these applicants exceed the realizable value of their assets, worth approximately $25.2 million in the aggregate on an “as is” liquidation basis and they are each unable to meet their liabilities as they become due.

[5] Hush Homes is the owner of the Coronation project in Oakville. It is a 14 lot housing development, partially developed. Some homes have been sold, others are in development and awaiting sale. The applicants’ evidence is that this project can be completed within 12 months. Hush Homes has liabilities of approximately $38.7 million.

[6] Silverthornco owns a 13 lot housing development in Mississauga. It is partially developed. The applicants’ evidence is that this project can also be completed within approximately 12 months. Silverthornco has liabilities of approximately $13.6 million.

[7] Thornyco owns a third property in Mississauga. The original proposal was for the development of a high rise condominium and townhouses. It is raw land, not yet even zoned for the proposed housing uses. The applicants say they have downsized this project to a 45 lot housing development. At best, however, it will still take 2 to 3 years to develop this project. Thornyco has liabilities of approximately $12.3 million.

[8] Hush Inc. is a bare trustee with no assets but has liabilities owing to the landlord of the head offices of the Hush organization and is unable to meet its obligations as they become due.

[9] All of the mortgages secured against the Projects are currently in default and numerous creditors have initiated enforcement steps in respect of the applicants. In addition to several pending claims and enforcement actions, the landlord of the Hush group’s offices has taken legal action and issued a distress warrant. The applicants say that, absent the protection of the court afforded under the CCAA, it will be impossible for the applicants to proceed with any form of restructuring for the benefit of their creditors.

[10] I am satisfied that the preconditions for the exercise of the court’s jurisdiction under s. 3 of the CCAA are met. The applicants are each a “debtor company” as defined in s. 2. They are affiliated companies and all but the bare trustee have claims against them in excess of $5 million.

Thornyco – Rceivership or CCAA?

[11] The only contentious issue on the return of the application for the initial order is whether the Thornyco project should be carved out of the CCAA proceedings and subject to disposition by a receiver whose appointment by the court is sought by the first mortgagee of the Thornyco property, Diversified Capital Inc.

[12] Since the applicants have said that they will not proceed with the application under the CCAA without the Thornyco project, I will deal with that issue first, and return to other aspects of the application once the threshold Thornyco issue is resolved.

[13] Diversified has four mortgages on the Thornyco property:

(i) a first mortgage and the principal amount of $6,950,000

(ii) a second mortgage in the face amount of $1,500,000

(iii) third mortgage in the face amount of $2 million; and

(iv) a sixth mortgage in the face amount of $2,532,000.

[14] The evidence does not permit the determination of the total amount actually secured under Diversified’s mortgages because some of the mortgages are said to be restricted to collateral security for possible deficiencies on the realization of mortgage amounts owing on other properties. A full accounting of realization on these other properties was not before the Court.

[15] According to Diversified, however, $9,078,675.35, as of December 1, 2014, is secured under its first mortgage. This quantification of the amount of the first mortgage is in dispute, which will be discussed below.

[16] Diversified’s first mortgage has been in default for over a year and a half. A notice of sale was issued by Diversified in May 2013. Diversified recently entered into an agreement of purchase and sale with an arm’s length third party to sell the Thornyco property under power of sale for $9.3 million. Diversified’s evidence is that after paying arrears of taxes, this price would result in a modest shortfall in the recovery of Diversified’s first mortgage debt (and, obviously, no recovery under any subsequent mortgages).

[17] At the initial return of this application (which was adjourned to permit the parties to discuss the matter) Diversified sought to have the Thornyco property carved out of the CCAA proceedings and to be permitted to carry on with its power sale.

[18] By the time of the return of the application, however, a good deal of additional evidence had been filed dealing with the nature and amount of Diversified’s mortgages, the validity of the notice of sale and the validity of Diversified’s purported exercise of its power of sale.

[19] Both the notice of sale and the process followed by Diversified in the power of sale are under attack in these proceedings. Recognizing the potential for risky litigation over various issues relating to the notice of sale, the validity of the sale process and possible claims for improvident realization, Diversified, during oral argument of the application, abandoned its initial proposal to proceed with the power of sale and now wishes to proceed by way of court appointed receiver to sell the Thornyco property. At the time of oral argument, there was no notice of application for that appointment before the court but Diversified has now served an application record for the purpose of seeking the appointment of a receiver to market and sell the Thornyco property.

[20] Both an order appointing a receiver and an initial order under the CCAA are highly discretionary in nature, requiring the court to consider and balance the competing interests of the various economic stakeholders. As a result, the specific factors taken into account by a court are very circumstance-oriented, Romspen Investment Corp. v. 6711162 Canada Inc. 2014 CarswellOnt 5836 (S.C.J.) at para. 61.

[21] In the case of land development companies, some courts have identified several factors which might influence a decision about whether to grant an initial order under the CCAA. In Cliffs Over Maple Bay Investments Ltd. v. Fisgard Capital Corp., [2008] CarswellBC 1758 for example, the B.C.C.A. said that the priorities of the security against the land development are often straightforward and there may be little incentive for the creditors having senior priority to agree to an arrangement or compromise that involves money being paid to more junior creditors before the senior creditors are paid in full. If the developer is insolvent and not able to complete the development without further funding, the secured creditors may feel that they will be in a better position by exercising their remedies rather than by letting the developer remain in control of the failed development while attempting to rescue it by means of obtaining refinancing etc.

[22] In Encore Developments Ltd. v. Patton Construction (2002) Ltd., 2009 CarswellBC 84, D. Brenner C.J.S.C. found, in a case where the “project” was raw land, there was no project development work in progress, no business activity being carried out, no equity in the project and likely a substantial shortfall to secured lenders, that there was no principled basis for putting in place or maintaining a stay that would prevent the real estate lenders from enforcing their security in the conventional manner should they choose to do so.

[23] It is nevertheless clear, as D. Brown J. found in Romspen, supra, that there is no “generic” prohibition against a land development business being subject to a CCAA process. Both the receivership and CCAA processes are highly discretionary and require the court to consider and balance competing interests of various economic stakeholders in coming to a conclusion about which remedial process is more appropriate.

[24] Diversified argues that real estate development projects are not well suited to CCAA proceedings. This is especially so when raw land is involved as is the case with the Thornyco project. There are few employees, no active business and there is no immediate prospect of an improved return without the expenditure of very significant additional money and after taking on the risk of a long-term development. The “build-out” of the Thornyco property, Diversified submits, is in reality a risky long-term real estate play that will take at least two to three years to come to fruition.

[25] If the applicants’ proposal was that Diversified would have to sit on its hands for two to three years with its capital tied up while the applicant and its new financial backer undertake the Thornyco development in the hope that there would be a sufficient return after payment of contractors, trades, taxes, super-priorities and the like to pay back the full amount of what is owed, I would entirely agree with Diversified’s position. Such a proposal would be doomed to fail as unfair and prejudicial to Diversified. That, however, is not the proposal being made by the applicants in this case.

[26] MarshallZehr Group Inc. is the first secured creditor on the Coronation and Silverthornco projects. In preparation for these proceedings, the applicants negotiated a restructuring agreement with MarshallZehr which provides the framework for what the applicants and MarshallZehr hope will be a viable CCAA plan for the applicants to put forward to their creditors.

[27] If implemented, the applicants (and MarshallZehr) maintain that the restructuring agreement will provide the financial and other means to enable the applicants to avoid an “as is” liquidation and proceed with an orderly “build-out” of the Projects with a view to maximizing value for the benefit of all the applicants’ creditors. They estimate that an incremental $10 million can be generated for creditors under this scenario.

[28] MarshallZehr has agreed to provide the applicants with a DIP loan facility in the amount of $3 million subject to obtaining a DIP lenders charge in priority to other security interests.

[29] Importantly, however, the DIP lender’s charge along with the other charges sought to be given a super-priority secured against the applicants’ assets, will be secured on a Project- specific basis, based, in the case of the DIP financing at least, on where the funds, or the benefits of the expenditure of the funds, go. The restructuring agreement governing the DIP financing provides that:

each of the Thorny, Silverthorn and Coronation property shall be security for amounts advanced, including interest accrued and accruing thereon, on account of professional fees, developer’s working capital, financing fees and closing costs in such manner and to such extent as is recommended by the Monitor and approved and allocated by the Court. [emphasis added]

[30] The vast majority of the DIP financing is forecast to be spent on the Coronation and Silverthornco projects, not the Thornyco project. Further, the applicants agreed during oral argument that the amount of DIP financing secured against the Thornyco property would be capped at $500,000 in any event.

[31] Even more importantly, MarshallZehr also proposes to pay out Diversified’s first mortgage in full (in an amount determined by the Court) and assume the first mortgagee position on Thornyco. The proposal is that a claims process will be established promptly which will be used to determine the amount properly secured under Diversified’s first mortgage. MarshallZehr has undertaken to the Court that it will pay whatever amount is found to be owed under Diversified’s first mortgage.

[32] Thus, if Diversified is right that it is owed $9,078,675.35 on its first mortgage (plus additional accrued interest since December 1, 2014), it would be in a better position under the applicants’ CCAA proposal than it would have been if it had gone through with its power of sale (the power of sale process involved an offer that Diversified was prepared to, and did, accept which would have resulted in a shortfall on the amount it says it is owed under the first mortgage). In the former scenario, Diversified would not be “dragged into” a CCAA proceeding and would not, presumably, have any obvious reason to vote against a plan of compromise since any amount it might receive on its subsequent mortgages would be a “windfall” compared to what Diversified was willing to accept on its proposed power of sale of the Thornyco property.

[33] Ultimately, Diversified’s complaint about being drawn into the CCAA process, as opposed to asserting its own rights through a receivership process, is that the Court may find in the CCAA claims process that Diversified’s first mortgage is not $9,078,675.35 but some lesser amount. Diversified’s concern is that if the “difference” is allocated to its second, third or even sixth mortgages, it will be paid out the amount of its first mortgage but amounts found to be secured by subsequent mortgages will be tied up indefinitely in the CCAA proceedings.

[34] The problem with this argument is that the issues which have been raised about the calculation of Diversified’s first mortgage debt will be raised in whatever process is adopted to realize on the value of its first mortgage.

[35] The disputes over the calculation of the amount of Diversified’s mortgage entitlements appear to involve four issues:

(i) whether a $1.4 million increase to the first mortgage was, in fact, advanced;

(ii) whether a deficiency resulting from a 2013 refinancing of a first mortgage Diversified formally held on the Silverthornco property was secured under its first mortgage on Thornyco;

(iii) whether there is a shortfall resulting from realization on another property, Langston Hall, for which Diversified’s first, second or third Thornyco mortgages are collateral security; and

(iv) whether certain payments made in 2013 totaling about $700,000 were “advances” under the first mortgage made with knowledge of the subsequent fourth and fifth mortgages (and therefore subordinate to those mortgages) or whether they qualify as amounts secured by the Thornyco mortgages at all.

[36] The Diversified first mortgage is a conventional charge for monies actually advanced to the borrower, rather than a collateral charge. The applicants take the position that under an August 2012 mortgage amending agreement which increased the first mortgage by $1.4 million, Diversified did not “advance” $1.4 million to Thornyco. Rather, they argue, this increase in the amount of the Diversified first mortgage was intended as collateral security given in consideration for the discharge of Diversified’s mortgages over certain Silverthornco properties. Diversified takes the position that valuable consideration was provided for this mortgage.

[37] In June 2013, MarshallZehr refinanced Diversified’s Silverthornco mortgage, repaying the loan that Diversified argues was collaterally secured by Diversified’s first mortgage on Thornyco. This refinancing left a shortfall of approximately $600,000 which was only then crystallized and allegedly transferred to the Thornyco first mortgage to be secured on the Thornyco property. The applicants again argue that no portion of this $600,000 was “advanced” to Thornyco.

[38] Finally, there were payments made to Thornyco on June 4 and June 25, 2013 in the amounts of $450,000 and $250,000 respectively. Diversified’s mortgage summaries and Acknowledgment at the time characterized these payments a “advances.” At the time of these advances, Diversified had actual knowledge of the subsequent fourth and fifth mortgages on the Thornyco property.

[39] Initially, Diversified took the position that all of its advances were secured under its first Thornyco mortgage and that it could not advance funds under the second or third mortgages because those mortgages were collateral security for a mortgage Diversified held on another property, Langston Hall. In a subsequent affidavit, Diversified took the position that these amounts were not “advances” under the first mortgage after all but repayments of an overpayment credit owed to Thornyco. Diversified says that its second and third mortgages nevertheless “secured” the $450,000 repayment on June 4, 2013 and the $250,000 repayment on June 25, 2013. Diversified also still maintains that the second and third mortgages represent collateral security for a mortgage loan made on the other property, Langston Hall.

[40] There is a potential swing of roughly $2 million in the calculation of Diversified’s first mortgage security as a result of these issues.

[41] I am not being asked, nor would it be possible on the record before me, to resolve the question of which of these amounts in dispute represent proper and valid amounts due and owing under Diversified’s first mortgage on Thornyco and which do not. But it is clear that they are issues that will have to be resolved by the court in the event of either a receivership or a CCAA claims process.

[42] If Diversified is right about the amount secured under its first mortgage, it will be paid ought its first mortgage obligation accordingly. If it is wrong, some amounts may not be secured by the first mortgage or at all. Either way, the “disallowed” portion of Diversified’s first mortgage claim will not be available to it. And, under either process, Diversified will receive what it is entitled to receive under its first mortgage. This is because, in a CCAA process, MarshallZehr has undertaken to the court that it will take out Diversified’s first mortgage for the amount the court says is properly secured. And in a receivership process, likewise, the court will award Diversified the amount of any sale proceeds to which it is entitled under its first mortgage in priority to other creditors.

[43] Although it is theoretically possible that amounts “disallowed” as not being secured under Diversified’s first mortgage could slide seamlessly into a secured position under Diversified’s second or third mortgages, it is by no means clear on the present record how that could necessarily be so.

[44] In short, it is difficult to see how Diversified would be worse off in a claims process under the CCAA (in which MarshallZehr has undertaken to pay out Diversified on its first mortgage at full value, as found by the court) than it would in a receivership process, especially when compared to the amount Diversified was prepared to accept under its power of sale.

[45] Diversified also complains that under a CCAA order, it claims will be subordinated to the DIP lender’s and other charges sought in these proceedings. The concern is lessened, however, by the manner in which the proposal has been structured. First, I was advised during oral argument that MarshallZehr will pay out to Diversified its first mortgage, in the full amount found by the court to be properly secured by that mortgage, without adjustment for DIP financing priority.

[46] Second, and in any event, the super-priority charges that will be secured against the applicants’ assets will be allocated between Projects subject to court approval. Thus, to the extent Diversified has concerns about the allocation of these charges between Projects, it will have the opportunity to address this issue at a future court proceeding.

[47] It must also be noted that the appointment of a receiver by the court now being sought by Diversified, will come with its own set of significant costs.

[48] Finally, I am prepared to order (to the extent that this right would not already exist) that Diversified is at liberty to return to court at a future juncture, for example, when the proposed claims process has run its course, prior to a vote on the applicants’ proposed plan of compromise or arrangement to renew its request if any new or additional prejudice has been identified.

[49] In conclusion, I find that the concerns which led other courts to dismiss some CCAA applications concerned with land development businesses are not present here. I find, on the unique facts of this case, that the “prejudice” to Diversified, that is the risks it faces in seeking recovery on its mortgage security, is roughly the same whether realization takes place in the receivership scenario or the CCAA scenario.

[50] For this reason, I find that Diversified’s concerns are not sufficient, at this initial stage, to warrant carving the Thornyco project out of the CCAA application and denying the stay in respect of that Project.

The Stay

[51] The CCAA is remedial legislation. It is intended to provide a structured environment for the negotiation of compromises between the debtor company and creditors for the benefit of both. Where a debtor company realistically plans to continue to deal with its assets so as to benefit creditors but requires the protection of the court in order to do so and it is otherwise too early for the court to determine whether the debtor company will succeed, relief should be granted under the CCAA, Re Lehndorff General Partners Ltd., 1993 CarswellOnt 183 (Gen. Div.) at para. 6.

[52] Section 11.02 of the CCAA provides that a court may, on the initial application, make an order staying all proceedings in respect of the debtor company for a period of 30 days, provided the court is satisfied that circumstances exist that make the order appropriate.

[53] The applicants require a stay of proceedings in order to stay the enforcement actions that have been initiated against the applicants and their property. Absent the protection of the court afforded under the CCAA, it would be impossible for the applicants to proceed with any form of restructuring. The stay of proceedings will allow the applicants to refine and implement a restructuring plan, including a claims process as discussed above, based on the restructuring agreement with MarshallZehr that could, realistically, result in more value for all creditors.

Prefiling Obligations

[54] The proposed initial order does not seek to designate critical suppliers but proposes to grant to the applicants’ the power, with the approval of the Monitor or by order of the court, to determine if payments of certain prefiling expenses are necessary to the continued operations of the applicants. In granting the authority to permit payments of this kind, the courts have considered factors such as:

(a) whether the supply of goods or services is integral to the business;

(b) the dependency of the business on the uninterrupted supply of the goods or services;

(c) the fact that no payments would be made without the consent of the Monitor or the court; and

(d) the effect on the ongoing operations of the business and the applicants’ ability to restructure if were unable to make prefiling payments to critical suppliers.

[55] In this case, the continued supply of materials and services to the Coronation and Silverthornco projects to undertake restructuring efforts is absolutely critical. The Monitor is supportive of the grant of this authority and has undertaken to work with the applicants to minimize payments of prefiling liabilities.

[56] In the circumstances, I am prepared to grant the order sought.

The Monitor

[57] Section 11.7 of the CCAA requires that the Monitor be a trustee within the meaning of ss. 2(1) of the BIA. There are also certain restrictions on who may be a Monitor set out in ss. 11.7(2) of the CCAA. Gary Abrahamson of the Fuller Landau group is a trustee and is not subject to any of the restrictions. Fuller Landau has consented to its appointment as Monitor. Their appointment is approved.

The DIP Financing and Charge

[58] The authority to grant this order is set out in s. 11.2 of the CCAA. The listed factors include:

(a) the period during which the applicants are expected to be subject to CCAA proceedings;

(b) how the applicants’ business and financial affairs are to be managed during the proceedings;

(c) whether the applicants’ management has the confidence of its major creditors;

(d) whether the loan would enhance the prospects of a viable compromise or arrangement being made;

(e) the nature and value of the property involved; and

(f) the views of the proposed monitor contained in its prefiling report.

[59] In this case, the DIP lender’s charge does not purport to rank in priority over any secured creditor that has not received notice of this application. The amount to be advanced under the DIP facility is appropriate and required, having regard to the debtors’ cash flow statement as reviewed by the proposed Monitor and, the charge does not secure any obligation which existed before the order was made, Canwest Global Communications Corp., Re, 2009 Carswell Ont 618 (S.C.J. [Comm. List]) at paras. 31 – 35.

[60] It is true that Diversified has advanced a strongly held view that it has no confidence in the applicants’ management. However, as discussed above, very little of the DIP facility is going to be spent on the Thornyco project, so that any charge on the Thornyco property will be limited and, in any event, shall not exceed $500,000.

[61] It is clear that the DIP facility is needed to enhance the prospects of any viable compromise or arrangement. It will, among other things, enable all restructuring costs including fees and disbursements to be paid. It is also necessary to unlock the value which resides in the Coronation and Silverthornco projects which are relatively close to completion.

[62] Finally, there is no evidence of any other immediate sources of interim financing available on better terms.

[63] Accordingly, the request for an order approving the DIP facility in the maximum principal amount of $3 million, in accordance with the terms and conditions of the relevant agreements and as specified in this endorsement, is approved.

Administrative and Directors’ Charge

[64] It is clear that the applicants’ legal advisers and the proposed Monitor must have a secure source of payment in order to perform their functions. The court has jurisdiction to make this order under section 11.52 of the CCAA. Having regard to the factors outlined in Canwest Publishing Inc., Re, 2010 ONSC 222 at paras. 42 – 45 (Comm. List), I find the amount is proportional to the size and complexity of the business being restructured and there is no apparent duplication of roles. The only objecting secured creditor, Diversified, will be minimally affected by these charges because, again, they will have to be allocated on a Project-specific basis.

Conclusion

[65] In conclusion the application for an initial order under the CCAA is granted. I am prepared to sign the Initial Order submitted subject to counsels’ confirmation (or upon a further submissions if necessary) that the Order reflects the guidance of this endorsements in all material respects.

Penny J.

Date: January 19, 2015