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Corporate Bankruptcy: Contrasting Canadian and American Approaches

Bankruptcy is a legally declared inability or impairment of ability of an individual or organization to pay its creditors. Bankruptcy cases are either voluntary or involuntary. The majority of bankruptcies are typically voluntary whereby a debtor (a person who owes a creditor) files a petition. In some cases, creditors may file a petition against a debtor in an effort to recover a portion of what they are owed or initiate a restructuring. The following chart provides a brief description of the various Canadian and U.S. bankruptcy laws:

According to Industry Canada, Canadian business bankruptcies decreased approximately 8.6% for the 12 month period ended October 31, 2009 when compared to the same period ended in 2008. However, Canadian consumer bankruptcies have increased approximately 33.6% during this same time period.

According to the Administrative Office of the U.S. Bankruptcy Courts, U.S. insolvencies filed by businesses increased approximately 51.9% for the 12 month period ended September 30, 2009 when compared to the same period ended in 2008. Non–business filings have increased approximately 33.8% during this same time period. Below is a chart summarizing insolvency filings over the last two years by country.

In Canada, the Companies’ Creditors Arrangement Act (CCAA) governs many restructurings

The CCAA is a federal act that allows financially troubled corporations the opportunity to restructure their affairs. This provides the company with the opportunity to avoid bankruptcy and allows its creditors to receive some form of payment for amounts owed to them by the company.

In order to qualify for relief under the CCAA, the debtor must be insolvent, have in excess of $5 million (Canadian) in debt and be a Canadian incorporated company, or a foreign incorporated company, with assets in Canada or conducting business in Canada. For all others who do not meet these criteria, a petition can be filed under the Bankruptcy and Insolvency Act (BIA).

Typically, a CCAA filing is initiated by the debtor with the submission of an application to the superior court of the relevant province. In some instances, creditors may initiate the process; however, this is very uncommon. The court will issue an order giving the company 30 days of protection (the Stay) to try to arrange its affairs so that it can continue operating and prepare a Plan of Arrangement (the Plan). As long as a CCAA order remains in place, creditors are not allowed to take any action to collect monies owed to them.

The Plan is then submitted to the creditors (and shareholders, if applicable). If all creditors and shareholders approve the Plan, the court must then approve the Plan as a final step. If the Plan is not approved by the court, the Stay is lifted and, in many cases, the company will be placed into receivership or bankruptcy.

In the U.S., corporate bankruptcies are governed by Chapter 7 or Chapter 11 Bankruptcy Code

When a business in the U.S. is unable to service its debt or pay its creditors, the business or its creditors can file a petition with a federal bankruptcy court for protection under either Chapter 7 or Chapter 11. Typically with Chapter 7, a business will cease operations and a trustee will sell all assets and distribute the proceeds to its creditors. Chapter 11 is a form of bankruptcy that involves a reorganization of a debtor’s business affairs and assets. It is generally filed by corporations which require time to restructure their debts.

Similar to the CCAA, a petition is filed either voluntarily or involuntarily. Again, in most instances, the petition is filed voluntarily by the debtor. Once the petition has been filed, the debtor becomes the debtor in possession (DIP) and acts as the trustee of the business. As soon as the petition is filed, an automatic stay comes into effect, meaning creditors are not entitled to pursue debts. This period of time also allows debtors to try to negotiate with creditors.

Debtors in Chapter 11 have the exclusive right to propose a plan of reorganization for a period of time, usually 120 days. After this time, creditors may also propose plans. Under a typical reorganization plan, the debtor attempts to restructure its debts. Similar to the CCAA, creditors must vote to approve the plan of reorganization. If the creditors approve the plan, it must also be confirmed by the bankruptcy court. If the plan is carried out successfully, the debtor is discharged from debts that arose before the confirmation of the plan and the business may continue to operate. If the plan is not confirmed, the court may either convert the case to a liquidation under Chapter 7 of the Bankruptcy Code or dismiss the case entirely.

Contrasting the CCAA and Chapter 11

While the CCAA and Chapter 11 both cover corporate reorganizations, differences do exist. The main difference is that Chapter 11 is a very detailed code with specific statutory requirements, whereas the CCAA is much more general and gives a Canadian judge more leeway than his or her American counterpart. This often leads restructuring proceedings to move more quickly in Canada and with considerably less expense, when compared to the U.S. where Chapter 11 proceedings can be drawn out for years.

Also, in Chapter 11, the restructuring company must seek court approval before rejecting or assuming executor contracts, whereas under the CCAA, a company is usually given court permission. There is no constitutional protection in Canada for property rights like there is in the U.S. This typically leads to differences in approaches for insolvency and restructuring laws between Canada and the U.S.

The following chart summarizes some of the key distinctions between the CCAA and Chapter 11 bankruptcy reorganizations:

Although there are some differences as noted above between the respective reorganization laws, there are many more similarities between the Chapter 11 and the CCAA proceedings. In both Canada and the U.S., a debtor can commence full proceedings for restructuring, obtain a stay of proceedings by creditors and file a plan of reorganization that complies with the substantive requirements of the CCAA and Chapter 11 of the U.S. Bankruptcy Code.

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