In the matter of the Proposal of Innovative Coating Systems Inc.
CITATION: In the matter of the Proposal of Innovative Coating Systems Inc., 2017 ONSC 3070 COURT FILE NO.: 35/2185695 DATE: 20170519
ONTARIO SUPERIOR COURT OF JUSTICE IN BANKRUPTCY and INSOLVENCY
In the matter of the Proposal of Innovative Coating Systems Inc., a company duly incorporated under the laws of the Province of Ontario, having its head office in the town of Tecumseh, County of Essex and Province of Ontario, (Bankrupt/Moving Party)
Counsel: Benjamin Blay, for Innovative Coating Systems Inc. Thomas Robson, for Business Development Bank Sean Zeitz, for Eli Mogil, lawyer for Uni-Select Eastern Inc. John Leslie, for Proposal Trustee, S. Funtig & Associates Inc. Timothy Hogan, for Royal Bank of Canada
Before: Garson J.
HEARD: May 12, 2017
Introduction
[1] Innovative Coating Systems Inc. (“the debtor”) brings an application for approval of its proposal, dated December 5, 2016 accepted by creditors at a meeting of January 18, 2017, pursuant to s. 58 of the Bankruptcy and Insolvency Act (“BIA”). The debtor also seeks directions from this court regarding next steps.
[2] Uni-Select Eastern Inc. (“Uni-Select”) and the Business Development Bank of Canada (“BDC”), secured creditors of the debtor, oppose the proposal because it contains a release of the guarantors.
[3] Wayne Brady (“Brady”), the principal of the debtor, executed personal guarantees in favour of both Uni-Select and BDC.
[4] For the reasons that follow and in accordance with s. 59(2) of the BIA, I am of the opinion that the terms of the proposal are not calculated to benefit the general body of creditors and accordingly refuse to approve the proposal.
Preliminary Matters
[5] Royal Bank of Canada, a secured creditor and senior lender of the debtor and the holder of a personal guarantee by Brady, takes no position on the motion on the basis that they are not affected by the proposal and their security, including the guarantee of Brady, is unaffected by its terms.
[6] Pursuant to s. 187(a) of the BIA and unopposed by the parties, BDC is granted leave to amend its Proof of Claim to extend to both Loan No. 060562-02 and No. 60562-04.
Background and Facts
[7] Innovative, an industrial coatings and chemical company in Tecumseh, Ontario, filed a Notice of Intention to File a Proposal under the BIA.
[8] S. Funtig and Associates Inc., in its capacity as trustee (“the Trustee”), prepared a proposal, including a clause in the proposal that released guarantors from liability from future actions.
[9] Uni-Select, a secured creditor that supplied auto parts and services to the debtor, also holds a guarantee from Brady and his numbered corporation (“2067195”).
[10] Upon counsel for Uni-Select realizing how this clause would compromise their ability to pursue Brady, they reached out to the Trustee to request that the first creditor’s meeting scheduled for December 28, 2016 be adjourned. It was rescheduled for January 18, 2017 at 10:00 a.m.
[11] Due to an administrative error, no one from counsel for Uni-Select attended at this meeting. The Trustee delayed the start of the meeting for 20 minutes to allow time for counsel for Uni-Select to attend by phone. No one appeared either in person or by phone.
[12] BDC executed a proxy in favour of the proposal.
[13] Having determined sufficient voting letters and proxies were received from both secured and unsecured creditors to form a quorum, the meeting was held and the proposal was passed by 100 percent of creditors of both classes that voted at the meeting. The Trustee, Brady and counsel for the debtor were the only persons in attendance at the meeting. The Trustee exercised proxies or relied on voting letters to form a quorum.
[14] Counsel for Uni-Select emailed the Trustee the day after the meeting inquiring about whether the proposal had been updated. She was then advised of the outcome of the meeting and the fact the Trustee called the Official Receiver’s Office which confirmed the process they followed was correct.
[15] Both Uni-Select and BDC now appear before this court and oppose the proposal.
Positions of the Parties
[16] The Trustee seeks approval of the proposal and argues he acted honestly and in good faith and in accordance with the requirements of the BIA. He submits the proposal is reasonable in the circumstances and that his release of Brady as guarantor is as a quid pro quo for the assistance Brady will offer in liquidating the assets of the debtor which will ultimately benefit the general body of creditors.
[17] BDC candidly admits that it erred by misconstruing the meaning of the proposal and not initially understanding that it contained a release of the guarantee BDC personally holds against Brady. BDC argues that it is entitled to change its position before this court and now opposes the proposal because it will not benefit them as a secured creditor.
[18] Uni-Select goes further and argues that the proposal is drafted in a way that is misleading and violates the principles of the BIA and of commercial morality required in the drafting of such documents. Uni-Select suggests that the proposal does not benefit them as the largest secured creditor but rather enures to the benefit of Brady. They oppose the proposal and submit their earlier omission in failing to attend the creditor’s meeting does not affect their ability to oppose approval of the proposal by this court.
Discussion
[19] Section 59(1) of the BIA provides that the court shall, before approving the proposal, hear from the debtor.
[20] In Re Eagle Mining Ltd., 1999 CarswellOnt 1291, (Gen. Div.) the court made clear that there is no impediment to a creditor taking different positions at a creditor’s meeting and before the court. Ultimately, it is the court that must determine whether the proposal benefits the general body of creditors.
[21] Accordingly, the fact that BDC earlier voted to support the proposal is of no consequence given the position they now take.
[22] Section 59(2) of the BIA provides that if the terms of the proposal are not reasonable nor calculated to benefit the general body of creditors, the court shall refuse to approve the proposal.
[23] In Re Kitchener Frame Ltd., 2012 ONSC 234 (SCJ), Morawetz J. at para. 19 confirms the three-pronged test under s. 59(2) that the proposal:
(i) is reasonable;
(ii) is calculated to benefit the general body of creditors; and
(iii) is made in good faith.
[24] This test includes consideration of whether the terms of the proposal meet the requirements of commercial morality and maintaining the integrity of the bankruptcy system: Re Kitchener at para. 22. I will address each part of the test separately.
(i) Reasonableness
[25] None of the parties contest the reasonableness of the terms of the proposal, save and accept the release of Brady as guarantor.
(ii) Calculated to Benefit the General Body of Creditors
[26] Uni-Select and BDC combine to represent 100 percent of the secured creditors under the proposal. Uni-Select has a claim for $254,765.82 and BDC has a claim for $130,636.40. They constitute more than two-thirds of the admitted claims.
[27] There is little doubt that if approved, this proposal would potentially harm and prejudice both Uni-Select and BDC to the extent that their personal guarantees would be compromised. After all, one of the primary purposes of a personal guarantee is to permit the creditor to look to the guarantor when the principal debtor defaults – precisely the situation before this court.
[28] The Trustee suggests the release of Brady as guarantor is both permissible and reasonable in the circumstances. I disagree.
[29] In ATB Financial v. Metcalf and Mansfield Alternative Investments II Corp., 2008 ONCA 587, the Ontario Court of Appeal outlined the requirements that must be satisfied to justify a third-party release (in the context of a plan under the CCAA). In Re Kitchener, Morawetz J. applied these criteria in the context of approving a proposal under the BIA. They include:
(a) the parties to be released are necessary and essential to the restructuring of the debtor;
(b) the claims to be released are rationally related to the purpose of the proposal and necessary for it;
(c) the proposal cannot succeed without the releases;
(d) the parties who are to have claims against them released are contributing in a tangible and realistic way to the proposal; and
(e) the proposal will benefit not only the debtor companies but creditors generally.
[30] I have difficulty accepting that the criteria have been met. There is little to satisfy me that the release is necessary or essential to the liquidation of the debtor’s assets. Although the affidavit of Brady suggests he would be unwilling to assist with the liquidation in the absence of being released from his guarantees, this assertion rings hollow. Common sense dictates that it is in the best interests of Brady to maximize every dollar of potential earnings from the proposal. After all, each dollar achieved is one less dollar of potential personal liability. In the end, he would be ill-advised to let such potential returns slip away due to his unwillingness to assist with the liquidation.
[31] I am also not satisfied that the release of Brady’s personal guarantees are neither rationally related to the purpose of the proposal or necessary for it.
[32] As referenced above, the proposal can succeed without his release, given the inherent self-interest he has in maximizing the liquidation of the assets.
[33] As both Uni-Select and BDC point out, this proposal benefits neither of them and compromises their guarantees.
[34] I place little weight on the fact that Uni-Select failed to attend the rescheduled creditors meeting and BDC wishes to retract its vote. Section 59(2) provides each creditor with a fresh opportunity to make submissions on the proposal. Their administrative error, inadvertence or oversight speaks to the reason this matter is before the court but not to whether they meet the test under s. 59(2).
[35] There is no need for a quid pro quo for Brady in these circumstances.
(iii) Good Faith
[36] I agree with the submissions of Uni-Select that the terms of the proposal are drafted in a way that does not clearly disclose that the personal guarantees of Brady and 2067195 are being compromised. These releases should have been front and centre. In Article 2.2, the proposal states that it affects
…all claims existing against Innovative.
[37] There is no mention of Brady’s personal guarantees nor of the quid pro quo analysis.
[38] The accompanying letter to the proposal at Tab 1(d) of the Responding Motion Record is also silent as to Brady’s personal guarantees.
[39] Although I do not accept the characterization of the proposal as intentionally misleading, I agree that the breadth of the release was tucked away in Article 3.4 in a manner that caused BDC to initially misread the proposal and misunderstand the implications with respect to the guarantees. Simply put, the proposal was not drafted in a manner that properly reflects the interest of creditors and the requirements of commercial morality and integrity. Rather, it is a carefully tailored proposal that appears to better serve the interests of Brady, but is not calculated to benefit the general body of creditors: Re Lofchik, 1998 CarswellOnt 194 (Gen. Div.) and Re Sumner Co. (1984) Ltd., 1987 CanLII 7591 (NB QB), 1987 CarswellNB 26 (NBQB).
[40] At the end of the day, a court must be satisfied that the creditors are getting more advantage from the terms and the proposal than would arise from a bankruptcy. I am not so satisfied on the record before me.
[41] The Trustee should have expressly and clearly stated both within the terms of the proposal and the covering letter that the proposal benefits Brady and 2067195 and he should have done an analysis of the extent of such benefits.
[42] I am aware of a very limited power under the BIA to make alterations or amendments to a proposal. However, none of the parties has sought this remedy and it is not appropriate to grant same in these circumstances.
Conclusion
[43] For the above reasons the proposal shall not be approved. In light of the provisions of s. 61(2)(a) of the BIA and with the consent of the parties, leave is granted to the debtor to file an amended proposal if it so chooses with the deemed release removed therefrom with costs payable by the debtor, Brady, 2067195 and the Trustee on a joint and several basis. In accordance with the requirements of the BIA, the amended proposal shall be filed within ten days.
Costs
[44] Uni-Select seeks costs on a partial-indemnity scale of $14,336.59, inclusive of HST and disbursements. Uni-Select suggests Brady ought to be jointly and severally liable for such costs because this type of conduct stood to personally benefit Brady and the Trustee’s conduct in not disclosing same in a more prominent manner ought to be sanctioned with costs.
[45] BDC seeks costs of $7,203.55 on a partial indemnity scale, inclusive of HST and disbursements.
[46] Innovative seeks costs of $5,030.31 on a partial indemnity scale, inclusive of HST and disbursements.
[47] I agree with Innovative that this motion would not have been necessary if Uni-Select had not missed the meeting that was rescheduled at its request. Similarly, had BDC not misread the proposal, they would have cast their vote in a manner that would have obviated the need for this motion.
[48] Further, BDC served no factum or cases in advance and showed up on the day of the motion with a single case in hand.
[49] Although the Trustee also bears some responsibility for this motion, but for the actions or inactions of Uni-Select and BDC, this court appearance would not have taken place. In all of the circumstances, this is one of those rare occasions where the court will exercise its discretion to award no costs.
“Justice M. A. Garson”
Justice M. A. Garson
Released: May 19, 2017
CITATION: In the matter of the Proposal of Innovative Coating Systems Inc., 2017 ONSC 3070 COURT FILE NO.: 35/2185695 DATE: 20170519
ONTARIO SUPERIOR COURT OF JUSTICE IN BANKRUPTCY and INSOLVENCY
BETWEEN:
In the matter of the Proposal of Innovative Coating Systems Inc., A company duly incorporated under the laws of the Province of Ontario, having its head office in the town of Tecumseh, County of Essex and Province of Ontario, (Bankrupt/Moving Party)
Reasons for judgment
Justice M. A. Garson
Released: May 19, 2017