Lenders or pensioners – who’s ahead after Indalex?

  • February 01, 2013
  • Janice and George Mucalov, LL.B.

It was a slam-dunk that the much-anticipated Indalex decision by the Supreme Court of Canada would be controversial no matter the outcome.

When a company becomes insolvent and there’s not enough money to go around, clashes are inevitable. Discussions get particularly heated when promised pension payments are in danger of being slashed. Sure enough, when Sun Indalex Finance, LLC v. United Steelworkers, 2013 SCC 6 washanded down on Feb. 1, it created a stir, with headlines like “creditors trump pensioners.”

Pension plan members lose

Indalex was an aluminum extrusion manufacturer with hundreds of employees, which became insolvent. It sought Companies Creditors Arrangement Act (CCAA) protection in 2009. To keep operating while restructuring, it needed more funds, i.e. debtor-in-possession (DIP) financing. The assets from the sale of the company’s business were ultimately insufficient to repay the DIP loan. Indalex also had unfunded liabilities to pension plan members.

This pitted the super-priority of the DIP lender’s charge (granted by CCAA court order) against the super-priority (the “deemed trust” security interest) claimed by pension plan members in plan wind-up liabilities under Ontario’s Pension Benefits Act (PBA).

The seven-member panel of the SCC unanimously found that federal paramountcy gave the DIP lenders (and the upstream Indalex guarantor, which had repaid the $10-million DIP loan shortfall and stepped into their shoes) priority over plan members. This meant the $6.75-million reserve fund set aside from the sale proceeds pending the court outcome went to the DIP loan guarantor. Members of the underfunded pension plans were left out in the cold.

DIP lenders

This ruling somewhat stilled the collective howls of financial industry groups heard after the eyebrow-raising Ontario Court of Appeal decision in the case. That court decided in favour of plan members, giving priority to the deemed and constructive trusts it found to exist.

DIP lenders lend fresh funds to an insolvent company to allow it to operate while restructuring in hopes of surviving, instead of liquidating . But they’re unlikely to do so if they face ranking behind often large and hard-to-quantify unfunded pension liabilities, including shortfalls arising on pension plan wind-up. Without such new money, an insolvent company cannot carry on while trying to reorganize under the CCAA or perhaps sell the business as a going concern, saving hundreds of jobs.

Pensioners’ position strengthened in future

Where does this leave pension plan members – who face losing all or some of their earned and promised benefits?

In Indalex, the SCC made a number of rulings that improve their position in future.

By a 4:3 split decision, the court found that the provincial PBA “deemed trust” security interest extends to and covers the liabilities arising upon pension plan wind-up. This ensures that plan members have secured creditor status regarding these wind-up liabilities.

It also decided that – unless displaced by conflicting federal legislation like on a bankruptcy (in which case the federal Bankruptcy and Insolvency Act priority scheme applies) or over-ridden by a CCAA court order – the priority scheme of provincial legislation, like Ontario’s PBA, applies in CCAA proceedings.

“From my perspective as counsel, despite the fact that the SCC appeal was allowed, there was a significant recognition of pensioner concerns,” says Andrew Lokan at Paliare Roland, who acted for the Canadian Federation of Pensioners in the SCC case. “The priority of the provincial deemed trust survives in the CCAA process unless it’s supplanted by a judge. It only gives way to the extent necessary – there’s not an automatic discount of the provincial deemed trust in the CCAA process.”

Conflicts of interest to be addressed

The SCC also ruled that plan members must not be prejudiced where the employer, which has to look out for the best interests of the business, also acts as plan administrator, which has to look out for the best interests of pension plan members.

Wearing these two hats (with the built-in conflict of interest potential) is authorized by statute, said the court. It’s common with defined benefit pension plans, and Indalex was the plan administrator here.

But when the company applied for the super-priority charge in favour of the DIP lenders, it should have addressed the problem this posed for plan members, who had a conflicting interest. The pension plan members should have been given notice, so they could be independently represented by the appointment of a third party plan administrator or independent counsel, who could voice their concerns.

Going forward, this case should therefore strengthen procedural protections for plan members.

“Practically speaking, while pensioners in this case lost out, they may benefit in future,” says Lokan. “Once it’s clear there’s a conflict of interest, companies may to have to give notice to plan beneficiaries of the CCAA process sooner.”

“The most careful readers of this SCC judgment will be trial court judges in the CCAA process,” adds Lokan. “When they look at approving DIP financing, they’ll be asking if the rights of vulnerable pensioners will be affected.”

With earlier notice, pension lawyers can challenge company actions at an earlier stage in the proceedings.

The SCC decision also reflects the aim of CCAA courts for stakeholders to reach negotiated arrangements in difficult work-out situations.

“There was a clear signal from the lower courts and the SCC that they prefer negotiated solutions,” says Lokan. “If plan beneficiaries, including pensioners, get more notice of steps in the CCAA process, their lawyers will be better placed to take part in negotiations towards solutions that all stakeholders can live with.”

Janice Mucalov and George Mucalov are lawyers and writers living in Vancouver.