Allocating proceeds and costs in an insolvency

Arrangement relatif à FormerXBC inc. (Xebec Adsorption inc.), 2023 QCCS 2417
What is the test for allocating proceeds and costs in an insolvency?

Overview: This case considers the test to be applied in allocating proceeds and costs in an insolvency proceeding where there are multiple debtors, multiple secured creditors and “a dizzying number” of intercompany payments between the companies.

The Court issued an Initial First Day Order under the CCAA on September 29, 2022, and several subsequent amended and restated initial orders (“ARIO”). When the Initial Order was filed, Xebec Group was comprised of a myriad of corporations across Canada, the USA, the Middle East and Asia, though only some of these entities were subject to the CCAA orders.

The Group has operated, de facto, from a cashflow perspective, on a consolidated basis. The operations and accounting of all entities remained intertwined. Specifically, money transfers occurred on a continuous basis between the various entities. Assets were sold and purchased on a continuous basis amongst the entities. Services were provided and expenses were paid for all entities of the Group by Xebec Adsorption inc. (“BLA”) and Xebec Adsorption USA, Inc. (“XSU”).

Interim financing was provided to BLA for the benefit of all the debtors pursuant to the ARIOs. Since the Initial Order, XSU and BLA assumed significant portions of corporate expenses, as well as the restructuring costs which have benefited all entities. As early as its first report, the Monitor reported that the debtors intended to continue ordinary course intercompany transactions within the Xebec Group. The Monitor anticipated that there would be circumstances where intercompany funding would be required between the Xebec Group entities in order to preserve value, maintain going concern operations and/or ensure an orderly wind-down of certain non-core operations. Consequently, the Monitor undertook to include in its future reports all relevant information with respect to material post-filing intercompany payments. To further streamline the process, the Monitor set up an Intercompany Protocol to “supplement the instructions already given to the Petitioners with the objective of ensuring good and uniform practice regarding intercompany and pre-filing payments and to facilitate the notifications to the secured lenders and the Monitor’s reporting”.

As a result of the sale of most of the Group’s assets, significant proceeds were collected, and the Monitor asked the Court to approve a Claims Procedure given that there would be sufficient proceeds to present plans of arrangements for certain of the debtors. The Monitor prepared a detailed “Proposed Allocation Methodology”, in respect of which it sought court approval. No one contested the Proposed Allocation Methodology.

The Supreme Court of Canada in Callidus has given clear directions on the nature of the CCAA supervising judge’s discretion to render orders and how this discretion should be exercised. Section 11 of the CCAA grants the CCAA court discretion to make any “order that it considers appropriate” and which responds “to the circumstances of each case and [meets] contemporary business and social needs”. This authority is “not boundless”, and the Court must keep in mind “three ‘baseline considerations’ which the applicant bears the burden of demonstrating: (1) that the order sought is appropriate in the circumstances, and (2) that the applicant has been acting in good faith and (3) with due diligence”. Appropriateness must be assessed “by considering whether the order would advance the policy and remedial objectives of the CCAA”.

Here, the Court approved the Proposed Allocation Methodology, holding that it had the power to render the order sought. Section 23 of the CCAA sets out the non-exhaustive list of statutory duties and functions of Monitor, which include at subparagraph (k) “carrying out any other functions in relation to the company that the court may direct”. This subparagraph is the conduit by which the Monitor’s “minimum powers” set out at s. 23 “may be augmented through the exercise of a court’s discretion”. The Court found that it had indeed “augmented” such powers in directing the Monitor to set up an Intercompany Transactions Report which would include the proposed allocation of the net amount to be attributed to each debtor.

It was clear that the Monitor and the debtors had acted diligently and in good faith. The Proposed Allocation Methodology was presented at an information session, and no one contested the Monitor’s application. The Court’s examination, therefore, focused on the appropriateness of the allocations that were proposed.

The Court cited with approval the principles governing allocation of receiver’s costs between various assets set out by Justice Brown of the Superior Court of Justice of Ontario in Royal Bank of Canada v. Atlas Block Co. Limited — finding that they were relevant in the present case where there were multiple petitioners whose operations gave rise to a dizzying number of intercompany transfers and transactions, two secured creditors with security interests on different assets, and multiple geographical situses. The principles are:

1. The allocation of such costs must be done on a case-by-case basis and involves an exercise of discretion by a receiver or trustee;

2. Costs should be allocated in a fair and equitable manner, one which does not readjust the priorities between creditors, and one which does not ignore the benefit or detriment to any creditor;

3. A strict accounting to allocate such costs is neither necessary nor desirable in all cases. To require a receiver to calculate and determine an absolutely fair value for its services for one group of assets vis-à-vis another likely would not be cost-effective and would drive up the overall cost of the receivership;

4. A creditor need not benefit “directly” before the costs of an insolvency proceeding can be allocated against that creditor’s recovery;

5. An allocation does not require a strict cost/benefit analysis or that the costs be borne equally or on a pro rata basis; and

6. Where an allocation appears prima facie as fair, the onus falls on an opposing creditor to satisfy the court that the proposed allocation is unfair or prejudicial.

The Court found that the method provided was clear and could be easily applied, and allowed for easy recalibration if further proceeds were collected or expenses incurred. The method tried to adhere as closely as possible to available data. There was nothing amiss with this Proposed Allocation Methodology and the finely-tuned principled approach it put forth. Accordingly, the Court granted the Application.

Judge: Justice Immer

Counsel: Sandra Abitan, Julien Morissette, Sophie Courville and Jessica Harding of Osler for the companies; Jocelyn Perreault and Marc-Étienne Boucher of McCarthy for Deloitte as Monitor; Eli Karp of KND and David Assor of Lex Group for the Class Action Applicants Maurice Leclair and Evert Schuringa; Samuel Perron of Norton Rose Fulbright for EDC