Focus: Ruling rejects American-style doctrine

The American doctrine of equitable subordination could be on its last legs in Canada after the province’s top court refused to apply it in Companies’ Creditors Arrangement Act proceedings concerning the insolvency of Stelco, formerly known as U.S. Steel Canada.

In its Sept. 9 decision in U.S. Steel Canada Inc. (Re), a unanimous three-judge panel of the Court of Appeal for Ontario found the doctrine, which allows for the re-ordering of creditor claims in favour of lower-ranked creditors due to inequitable conduct by those higher up the priority list, does not fall within the scheme of the CCAA.

In the Stelco case, the steelworks’ unionized employees have called for the doctrine to be applied to boost their claims ahead of the firm’s Pittsburgh-based parent company, United States Steel Corporation, which has claimed $2.2 billion in inter-corporate debt against its own subsidiary.

The union blames the parent company for the underperformance of its Canadian operations, and it has made various allegations of misconduct relating to its treatment of unionized workers and pension plan members.

And they will get a final kick at the can at the Supreme Court of Canada after it agreed to hear the case following a leave application that claimed the Ontario appeal court’s ruling on equitable subordination “fundamentally and inappropriately narrows the scope of a court’s jurisdiction and its remedial powers under the CCAA.”

Jeremy Opolsky, an insolvency and restructuring lawyer in the Toronto office of Torys LLP, wrote a paper on the doctrine’s uncertain status in this country back in 2015.  

He says the Ontario decision “gets us much closer to some finality in terms of its application in Canada,” but he adds that the upcoming hearing at the Supreme Court ”may once and for all tell us where we stand.”

Andrew Hatnay, a partner at Koskie Minsky LLP who acts for non-unionized Stelco employees, says some of the hesitance to embrace the concept may lie in its U.S. origins, where the doctrine has been enshrined in that country’s Bankruptcy Code since 1978.  

“It’s more formally recognized in the U.S., so when you talk about equitable subordination here, the question becomes whether we should import a U.S. doctrine,” he says.

It’s not the first time the obituaries have been prepared for equitable subordination in Canada in the three decades since it was recognized by a U.S. court for the first time and then incorporated into legislation.

The Supreme Court of Canada considered the doctrine in a 1992 case, but it declined to rule on whether it should be applied.

The issue returned to the nation’s top court in 2013 in the case of Sun Indalex Finance, LLC v. United Steelworkers, but they again found it unnecessary to deal with the controversy as part of their disposition.  

That silence across 21 years was enough for the CCAA judge in the Stelco case, Herman Wilton-Siegel, who the appeal court judgment says appeared to read the Supreme Court’s refusal to rule as an outright rejection of the principle.  

Wilton-Siegel found he lacked jurisdiction under the CCAA to apply the doctrine, in part because a legislative review of the act in 2009 gave Parliament the chance to explicitly add equitable subordination.

While the reform of the act included a number of other re-ranking mechanisms, he concluded the failure to add the doctrine was a policy decision he must respect.
The appeal court decision upheld Wilton-Siegel’s ruling, but it gave differing reasons.

Ontario’s Chief Justice George Strathy, writing for the court, looked at the act as a whole, concluding that “nowhere in the words of the CCAA is there authority, express or implied, to apply the doctrine of equitable subordination.”

“Nor does it fall within the scheme of the statute, which focuses on the implementation of a plan of arrangement or compromise,” Strathy added.

Michael Barrack, a partner in the litigation and dispute resolution practice group at Blake Cassels and Graydon LLP, says even if the case were proceeding under the U.S. Bankruptcy Code, the circumstances would not justify application of the doctrine.

In any event, the decision puts an end to uncertainty over its applicability in CCAA proceedings, he says.  

“I think the fact of the matter is we don’t need it,” says Barrack, who acted for Stelco’s U.S. parent before the appeal court.

“I don’t think there is any impediment for a person who faces the sort of conduct that would ground an application of equitable subordination from finding an appropriate remedy in Canada.”   

And Hatnay says he is inclined to agree. “Canadian courts have used their general powers of equity to subordinate creditors where they have found inequitable conduct, so I think it’s possible for them to possess this power, without having to formally acknowledge the importation of the U.S. nomenclature,” he says.  

If the Supreme Court of Canada declines to rule again on the doctrine, Opolsky says equitable subordination may live on in Canada under the Bankruptcy and Insolvency Act.

It was under that act in which the only Canadian case to explicitly apply the doctrine proceeded in 2009, coming in the Newfoundland and Labrador Supreme Court case of Oppenheim v. J.J. Lacey Insurance Limited.

The appeal court also leaves open that possibility in its Stelco decision, noting that s. 183 of the BIA “invests the bankruptcy court with ‘such jurisdiction at law and in equity’ as will enable it to exercise its bankruptcy jurisdiction.”

“If equitable subordination is to become a part of Canadian law, it would appear that the BIA gives the bankruptcy court explicit jurisdiction as a court of equity to ground such a remedy and a legislative purpose that is more relevant to the potential reordering of priorities,” Strathy added.

Beyond that, Opolsky says, federal politicians could include an amendment to finally add the doctrine to the CCAA during its next review of the act. “It’s always possible, although I haven’t sensed any appetite from Parliament that this is anywhere near the top of their priority list,” he says.

In the meantime, he says much depends on whether the Supreme Court finally rules on the doctrine.

“If they don’t, then it might fade into nothingness,” Opolsky says.

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