vultures2-307.jpg

Imagine there’s a company you’ve done a ton of work for – one that has yet to pay – and now the rumour is it’s going bankrupt. What do you need, urgently? The answer: certainty.

You need to know, now, what assets this shaky company has and what they’re worth, who the other creditors are and what they are owed, as well as how your claim ranks in the creditors’ lineup. Only then can you deal with the people to whom you owe money and avoid getting thrown into bankruptcy yourself.

Fortunately, the business of going broke in Canada is designed to fulfill creditors’ needs for speed, transparency and fair treatment – most of the time. There is, however, a growing trend of companies forcing a new interpretation on Canada’s existing insolvency laws, one that strips creditors of their usual rights. It’s a trend that may see many creditors walking away empty-handed in the coming recession, even if another group of players in the insolvency business will not. Like divorce lawyers, bankruptcy lawyers have been characterized as legal vultures who prey on others’ misfortunes; you hope never to have to hire either, but if the time comes, you want the best. In an economic recession, however, the best are going to be in demand by both principals and creditors, with both sides battling to protect their livelihoods and futures.

It’s been some time since anyone called Bonita Lewis-Hand a vulture. As the partner in Vancouver law firm Lawson Lundell LLP points out, the resource- and real estate-driven B.C. economy has been enjoying boom times, and Lewis-Hand hasn’t been accused of feasting on the roadkill of capitalism since at least 2003. For lawyers like her, whose practice is in bankruptcy and insolvency, the last few years have been very good for writing articles, brushing up on case law and preparing seminars, if not so good for litigating. B.C. resource companies have generally been very profitable in this economic cycle, with mineral producers enjoying high global prices and labour productivity since the last downturn in 2001-02. The real estate sector here also hasn’t paused, despite troubles in the U.S. and Ontario. Of course, there have been some areas of weakness in the province. The forestry sector, for example, has been damaged by a high Canadian dollar, rising costs and labour disputes, and there have been a number of restructurings and forced sales – Lewis-Hand has acted for several creditors and joint-venture partners as pulp mills have restructured their operations. She’s still putting in 50-hour weeks. There were 470 commercial bankruptcies in B.C. in 2007, but, overall, commercial bankruptcies have been a falling trend since 2003.

“It’s the solicitors in B.C. who have been working flat out doing deals for the past three years. They work insane, 80-hour weeks,” says the 47-year-old Lewis-Hand, a fresh-faced blond who’d look at home on a farm. Her voice, however, reveals no traces of the country. Seated in her large, airy Georgia Street office (which doesn’t feature the toppling stacks of paper that are the usual lawyer’s office decor), her hands perfectly still before her on the desk, she speaks precisely and quickly, authority in every completely formed sentence.

Lewis-Hand has always been pragmatic about economic ups and downs. When B.C.’s most recent recession hit in 1990, for example, just before she was called to the bar, one of the partners in the firm where she was articling called her into his office and shut the door. He said the partners liked her but couldn’t offer the corporate solicitor position promised earlier; work had suddenly dried up in everything but insolvency, so she took a position there instead. In the end, Lewis-Hand was just grateful to be one of the few articling students of her year to get a job at all. She took the Bankruptcy and Insolvency Act (BIA) home that night and read it all the way through. And by the time her old firm eventually dissolved, she had discovered that bankruptcy and insolvency litigation, unlike other areas of the law, was always urgent, always fast-moving, and that she liked the adrenalin rush. She stayed with it.

Unsurprisingly, then, it’s not when describing her balanced lifestyle (walks in the forest with the dogs in the morning; same nanny for the past 10 years; either she or her lawyer husband at home with the children in the evenings) that Lewis-Hand becomes animated. It’s when she talks about the case that had her working 12-hour days seven days a week through the summer of 2002, when her one break in three months was a four-day camping trip with her son and daughter. The case was the bankruptcy of Tarsem Singh Gill and one of the biggest cases of fraud in B.C. history. And it is worth recalling because it shows how the legal system is capable of protecting creditors’ rights.

Over a period of four years, Gill had fraudulently purchased more than 350 properties in B.C. with the connivance of lawyer Martin Wirick, now disbarred. The Vancouver real estate developer was buying up to a dozen properties a month and obtaining mortgages on them – many in the names of employees and subcontractors who were aware of the fraud; others were purchased in the names of innocent bystanders. But the game was up when Wirick went to the Law Society of B.C. in May 2002 and confessed. HSBC, the bank that held most of the mortgages, successfully petitioned the courts to place Gill in bankruptcy and appoint a trustee in bankruptcy. That trustee immediately retained Lewis-Hand, who put together a crew of lawyers, paralegals and assistants.
[pagebreak] Everyone on the team cancelled their holidays, and weekends were spent in the office. Spreadsheets were set up to track the properties, the registrations, the mortgages, the $200 million plus in liens and the foreclosures that were kicked off when Gill stopped making mortgage payments. Lewis-Hand opposed Gill’s appeal to suspend the court’s bankruptcy order and invoked a section of the BIA that gave the legal team the right to demand documents from third parties. She had all suspect properties flagged at the land-titles office so she could be alerted if transfers were attempted. She fielded calls from dozens of lawyers acting for creditors and from real estate agents and innocent homeowners who claimed their properties had been mortgaged without their knowledge. Sorting out the truth was one more thing Lewis-Hand had to figure out while keeping a step ahead of Gill, who was manoeuvring to get properties re-registered and off the radar before the team knew they existed. There was a lot of pressure, a lot of adrenalin.
 

vultures524.jpg

Colin Emslie, an insolvency lawyer at Fraser Milner Casgrain LLP, says it was Lewis-Hand’s tenacity, work ethic and prodigious memory that made it possible for Gill’s trail to be followed to the end. “Transactions in that case had tentacles that led elsewhere and then led somewhere else after that. She did a good job for the trustee, but she also did a very good job for the creditors.” Lewis-Hand is proud that the case prompted the B.C. Law Society to assist the innocent parties involved and enact new regulations that now make it more difficult for similar frauds to be perpetrated.

The fact that all but five of the suspect properties in the Gill case were found and secured within the first four months of a trustee being appointed shows that the law can move quickly when it wants to. Indeed, the courts recognize that time can erode assets when bankruptcy is involved, through damaged confidence (I’m not going to deliver essential supplies to a company if I am not confident of being paid), the sale of company assets for less than they are worth and the fraudulent transfer of assets. When scheduling judges, the courts give bankruptcies priority.

The urgency in such cases also reflects broader economic concerns. If money that’s due to creditors is tied up endlessly in bankruptcy proceedings, it can have a chilling effect on the granting of credit and eventually on entrepreneurship and foreign investment. One only has to look to the recent ABCP fiasco to see how a legal stalemate that effectively freezes assets can cascade through the economy with startling speed and unanticipated fallout, including companies failing because they have lost control of their working capital or because credit conditions have tightened as lenders react to mounting evidence of their own errors. Within the pain of bankruptcy, the BIA ensures a degree of certainty for creditors. The legal steps are rigid, and the legislation sets out a clear hierarchy of all secured and unsecured creditors. It also dictates that a bankruptcy must be wrapped up in six months and that cases be supervised by the federal Office of the Superintendent of Bankruptcy (OSB).

So why have some corporate insolvencies in recent years been fraught with outcomes that stakeholders have called unjust? Why have proceedings trailed through the courts with unbecoming leisure and immense legal costs? Think of big-name bankruptcies such as those for Air Canada, Algoma Steel Inc. and Eaton’s. These cases are the product of a legal arrangement peculiar to Canada, an entirely separate second piece of legislation that deals with bankruptcy and insolvency: the Companies’ Creditors Arrangement Act (CCAA).

The CCAA is a piece of Depression-era legislation that was enacted as a way to preserve companies and jobs. It is now used to make end runs around creditors’ rights when insolvent companies want to sell up, though it will take another recession to determine how popular this new interpretation of the CCAA will become and how far the courts will allow it to go. When the CCAA was passed in 1933, it was viewed as a way for major insolvent companies with a minimum of $5 million in assets to restructure their financial affairs and become productive once more. Today, supposedly in the service of the greater economic good, it can function to indefinitely stay bankruptcy proceedings and remove the rights and certainties creditors have under the BIA. The $5-million threshold made the CCAA narrowly applicable in 1933. Seventy-five years later, it is starting to be used not to restructure a company but to liquidate it.

“The CCAA was never envisioned by Parliament as a way to liquidate the assets of a corporate debtor,” says Lewis-Hand. “Its use that way is a relatively new development. In a bankruptcy under the BIA, supplier claims are elevated over secured creditors and other unsecured creditors. The CCAA is supposed to be a way of holding off bankruptcy while a company restructures its affairs and becomes a viable entity – and it’s more palatable in that context. If the CCAA is being used to liquidate, it is much less palatable.” [pagebreak] Until recently, western courts have been reluctant to allow CCAA proceedings aimed primarily at liquidating assets – a tactic commonly referred to as “liquidating CCAAs.” According to Janis Sarra, a law professor at UBC and the author of several works on bankruptcy and the CCAA, no one can say that a CCAA proceeding is being undertaken in order to sell company assets rather than restructure. “You can only say, ‘it appeared from the outset’ that that was the case. In order to be certain, company officials would have to tell you, and that isn’t likely to happen.”

The insolvency and eventual sale of A&B Sound to Seanix Technology Inc. is one B.C. example of a liquidating CCAA. A&B applied for creditor protection under the CCAA in January 2005. Sun Capital Partners then made a bid for the company, which was accepted but later overturned in negotiation amid controversy that Sun Capital had been unjustly treated. And there are more such examples in Ontario, where liquidating CCAAs made their debut. During the Eaton’s case in 2000, for example, creditors charged that the company was using the CCAA to conceal its true purpose: to sell, not restructure. One major contractor argued that Eaton’s was using the legislation to commit “expropriation without compensation,” and the judge expressed concern that Eaton’s shareholders were being provided with compensation while unsecured creditors were only receiving 50 cents on the dollar. Still, in the end, the judge concluded that claims had to be dealt with in the “rough and tumble” of negotiations.

Lawyers and corporate managers generally approve of the CCAA. Lewis-Hand first experienced it in practice in 1990 when she worked as junior counsel on the Quintette Coal Co. restructuring. Compared to the cumbersome regulatory steps of the BIA, “it was amazing to see how fast-moving the CCAA was,” she says. “It was the first adrenalin rush I got as a lawyer. With CCAA you have to act fast, think on your feet, come up with strategies, know what the pitfalls are and then know what the other side is likely to argue.” Everything is up for grabs.

For an important statute, the CCAA is short: some 40 sections compared to the BIA’s 300; it doesn’t even contain a definition of insolvency. Such brevity means that it is case-driven: judges’ decisions on CCAA matters are influenced by precedent. Success for a lawyer is determined by his or her skill in choosing supporting precedents and in arguing that those cases are applicable while those of the other side are not. The CCAA makes no deadlines for completion; it usually leaves existing management in place and imposes no hierarchy of creditors. Cases are not supervised by the OSB, and the OSB does not keep statistics on CCAA cases. The CCAA, in other words, is flexible, open-ended and amenable to the rough and tumble of deal making.
In B.C. it’s only a matter of time before we have many more bankruptcy victims to cite – more corporate entrails to be picked apart. After a giddy period when Canadians were assured that our economy was “decoupled” from an American slowdown and patted on the back for not having indulged in sub-prime mortgage lending, it’s clear that the old-fashioned business cycle is still alive this side of the border. For now it is only Ontario that is slipping into recession, with B.C. avoiding a significant slowdown. Still, any cracks in China’s building boom could lead to a softening of prices for B.C.’s natural resources, just when our own Olympic construction boom is ending.

The credit crisis is another negative factor, increasing the cost of credit and restricting it even as the Bank of Canada lowers its key rate, raising doubts about a real estate market that has been riding on a wave of confidence. The economic factor that has most consistently correlated with commercial bankruptcy filings in the past has been the cost of credit. No one expects to see Florida-style McMansion ghost towns in B.C., but, then again, it wasn’t long ago that no one expected to see them in Florida.

Meanwhile, Lewis-Hand spends her leisure hours acting as her own financial advisor. She reads the economic press and makes her own investment calls, a pastime she calls “relaxing” compared to her professional life. It also offers better returns than most mutual funds, she says. During this extended boom and heady expansion of business for most practice areas except her own, she doesn’t work on cases outside bankruptcy and insolvency, preferring to stay current with new case law (there’s no time for homework when a company is going under).
Her main satisfaction remains being able to turn around a failing company: keeping employees on the job and putting assets back to work. The practice of law is too stressful not to have that personal reward, she says. Would she use a liquidating CCAA if it were in the best interests of a corporate client? “Yes, I would, regardless of my personal view in a matter and provided that what is being contemplated is lawful and ethical. I have a duty to do what is in the best interests of the client. When you go to court, you go to win.”

In fact, she’s already getting calls from corporate directors who are worried about liability in the event of a recession-induced bankruptcy, though Lewis-Hand thinks it will take about a year and a half for the economic tide to fully turn. She noted the first cracks in B.C.’s resource sector in 2007 and believes, as do others, that the real downturn will begin when the 2010 Olympics’ major construction projects wind up. But by then it may be too late to devise a strategy to protect yourself from bankruptcy – your own or someone else’s. It may also be too late to retain Bonita Lewis-Hand. The best vultures will be in high demand.