Lifting the stay to pierce the corporate veil?

Overview: In this case, the Court lifted the bankruptcy stay to allow a party to seek recovery of the surplus funds held by the bankruptcy trustee based on the principles of subrogation and marshalling. In so doing, the Court set out the requirements for lifting the stay on equitable grounds.

In September 2018, Bear Creek Contracting Inc. (“Bear Creek”) sold its British Columbia helicopter business, Lakelse Air Ltd. (“Lakelse”), to the Universal Helicopter Group of Companies (“Universal”) for $14,250,000. Canadian Western Bank gave Universal a secured $10 million credit facility to finance its purchase of Lakelse’s assets. Universal guaranteed the loan and granted the Bank security over its assets. Bear Creek took a secured $2.5 million vendor take-back promissory note from Lakelse, which Universal did not guarantee.

Lakelse and the Bank executed an Intercreditor Agreement, pursuant to which the Bank’s security for Lakelse’s debt had priority over the Bear Creek security. The parties agreed that in a Lakelse receivership, the Bank would be entitled to the first $10 million plus interests and costs, and Bear Creek would be entitled to the next $2.5 million plus interest and costs.

Pursuant to a subsequent commitment letter, the Bank made a new advance to Lakelse of $3 million under the Bank’s existing security, and Universal guaranteed the loan. The common CEO of Universal and Lakelse arranged an intercompany transfer of the loan proceeds from Lakelse to Universal. Bear Creek was not aware of the loan.

The Bank demanded both Universal’s and Bear Creek’s loans, and proceeded to appoint private receivers. Both companies ultimately assigned themselves into bankruptcy. The Bank realized on both companies’ security and realized on the debt. However, the Bank suffered a deficiency on the Lakelse loan of about $790,000 after realizing the Lakelse security, and received the balance of the Lakelse loan under its Universal security.

Bear Creek applied to lift the stay of proceedings in the Universal bankruptcy so it could sue Universal on two counts. First, Bear Creek sought to pierce the corporate veil between Lakelse and Universal, so that the debts of Lakelse to Bear Creek became the debts of Universal. Alternatively, Bear Creek sought to recover the “surplus funds” held by Universal’s trustee under the equitable principle of marshalling. Bear Creek argued that the common CEO of Lakelse and Universal improperly made the intercompany transfer and, therefore, the surplus funds were not available to Bear Creek in the Lakelse receivership, but only to the Bank in the Universal receivership.

Section 69.4 of the Bankruptcy and Insolvency Act provides that a court may lift the stay of proceedings if it is likely that the stay materially prejudices a creditor, or doing so is equitable on other grounds. In assessing whether Bear Creek would be materially prejudiced, the Court considered whether the proposed action against Universal had little chance of success.

Marshalling is an equitable remedy intended to prevent a creditor who can resort to funds from two funds from defeating another creditor who can only resort to one of them. In order to qualify under the traditional view of marshalling, Bear Creek and the Bank both had to be creditors of Universal. Without lifting the corporate veil, Bear Creek was not a creditor of Universal, as Universal did not guarantee the Bear Creek loan.

The corporate veil could not be pierced unless it could be shown that Universal’s actions were themselves tortious or exhibited a separate identity or interest from that of Lakelse so as to make the act or conduct complained of their own. The Court found that Universal did not act improperly merely because it shared a CEO with Lakelse nor merely because it did not document the intercompany transfer. Both Universal and its CEO could make the intercompany transfer in the absence of restriction under Universal’s credit agreements or corporate arrangements. The Bear Creek security did not prohibit the intercompany transfer. Accordingly, Universal was not a debtor to both Bear Creek and the Bank.

However, courts have held that an inferior creditor can invoke the assistance of equity to cause the superior creditor to satisfy the debt from the property against which the inferior creditor has no recourse, so that property will be available to the inferior creditor. If this is impossible or unfair to the superior creditor, equity may allow the inferior creditor to stand as the superior creditor in relation to the property against which the inferior creditor otherwise has no recourse.

As both marshalling and subrogation are equitable remedies, Bear Creek had to come to court with “clean hands”, and satisfy the court that, among other things, the court could order subrogation even if Bear Creek did not pay off the Bank’s loans when the Bank realized the Universal and Lakelse security in the manner it did. The Court found that Bear Creek’s subrogation action did not have “little prospect of success”, and Bear Creek may be materially prejudiced by the stay.

The Court lifted the stay to allow Bear Creek to seek recovery from Universal of the surplus funds based on the principles of subrogation and marshalling.

Judge: Justice Alexander MacDonald

Professionals: Joshua Santimaw of BOYNECLARKE for Bear Creek; John Taylor-Hood of Benson Buffett for Canadian Western Bank and MNP as the Receiver of the Universal Helicopter Group of Companies; Christopher Isnor of Lawson Creamer for PwC as Trustee in Bankruptcy of the Universal Helicopter Group of Companies