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Law Times • march 22, 2010 FOCUS Changes to BIA and CCAA introduce 'unexpected liabilities' New definitions create risk for directors BY JULIUS MELNITZER For Law Times ruptcy and Insolvency Act or the Companies' Creditors Ar- rangement Act defi ned what a director is. But the expanding scope of governing structures involving Canada's insolvency regimes, as evidenced by the asset-backed commercial paper crisis, necessitated a change. "Th e legislation needed an expanded defi nition of direc- tors to ensure proper protec- tion, limitations, and liabilities in a growing variety of situ- ations," says Mario Forte of Ogilvy Renault LLP. But the amendments' wide B defi nition of director as anyone occupying that position regard- less of the person's formal title has proven troublesome. "Th ese defi nitions may in- unexpected troduce liabilities for some participants in an in- solvency, including shareholders under a unanimous sharehold- ers' agreement, de facto direc- tors, and deemed directors," says Edward Sellers of Osler Hoskin & Harcourt LLP. When it comes to restruc- turing, it's inevitable that the parent company will make the major decisions that aff ect its subsidiaries. But the subsidiar- ies are usually separate legal en- tities with their own directors. Unlike the parent, its directors must act in the best interests of the corporation they serve. "It's not infrequently the case that tension arises between what the parent might want and what the subsidiary might want," Sellers says. For example, the U.S. par- ent in the recent Circuit City insolvency was desperate for cash and hoping for support from its Canadian subsidiary. "Th at put the subsidiary's directors, who had to balance the parent's requests with the best interests of the subsidiary, in a tough spot," Sellers says. To resolve the tension, the shareholders subsidiary's en- tered into a unanimous share- holders' agreement that trans- ferred decision-making powers to the parent. Under s. 146(5) of the Canada Business Cor- porations Act and s. 108(5) of the Ontario Business Corpora- tions Act, a shareholder who is party to such an agreement has all the powers and liabilities of a director of the corporation to the extent that it restricts the powers of the subsidiary's directors to manage the com- pany's aff airs. Under the new amend- ments, then, the shareholders who signed the agreement as- sumed the same liabilities as if they were the subsidiaries' directors. Indeed, it may well be that the directors of any corporation that signed the agreement may also have been efore amendments that took eff ect on Sept. 18, neither the Bank- they are deemed to be direc- tors because it's perceived that certain powers reside in them," Sellers says. Understandably, these types Insolvency laws needed an expanded definition of direc- tors to ensure proper protec- tion, says Mario Forte. subject to these liabilities. "Where a corporation as a shareholder is a party to a [unanimous shareholders' agreement], the liabilities as- sumed by the corporation should be those of the share- holder corporation," Seller says. "But there has yet to be a reported decision in Canada confi rming that directors of the shareholder corporation are not the ones who are liable." Th e expanded defi nitions may also pose diffi culties for senior management of a sub- sidiary. For example, it's not unusual for the directors of various entities at an insolvent company to resign, eff ectively leaving senior management to make the day-to-day decisions. "Employees don't want to be the last man standing, so to speak, and in a position where of problems are more likely to occur in the case of a debtor- in-possession (DIP) situation than a receivership. "In DIP mode, the whole question of who's carrying the can requires a great deal of time and thought because the prospect of incurring directors' liabilities is very unsettling for management and not easily re- solved," Sellers says. What makes the problems more diffi cult to resolve is the disparity between the corpo- rate governance statutes and the amendments. All four stat- utes provide that anyone who manages the business or aff airs of the corporation is deemed to be a director where all of the directors have resigned or been removed by the shareholders without replacement. But only the Ontario and business federal corporations acts carve out exceptions that apply to an offi cer who manages under the direction of another; a professional who participates in management solely for pro- fessional purposes; and a trustee in bankruptcy, receiver, receiv- er-manager or secured creditor who participates in manage- ment solely for the purpose of realizing security or administer- ing a bankrupt estate. "Th e absence of similar ex- ceptions under the insolvency statutes means that a person may be exempt from directors' liabil- Untitled-1 1 ity under corporate law but still subject to such liability under the BIA or CCAA," Sellers says. Otherwise, the new defi ni- tions attract liability for de fac- to directors if they are former directors whose terms have ex- pired but have continued to act in that capacity or taken that offi ce upon themselves without proper appointment. "To establish that a person is a de facto director, he or she must exercise powers or au- thority normally possessed by a director," Sellers explains. "So where someone steps up to exercise leadership in insolvent circumstances, even without believing that he or she was a director or had any authority to advise, infl uence or control the management or direction of a company, he or she may be treated as a de facto director." Finally, there is no bright- line test as to when a de facto or deemed director ceases to hold that title. "Th e courts will look to the conduct of a person," Sellers says. LT Been in Law Times? Want a record of it? Promote your law firm by ordering reprints of articles from the voice of the profession — Law Times! Reprints are great for: • Firm promotional material • Use on your web site • Training and education • Suitable for framing $175 - $225/reprint We provide a color PDF and unlimited reproduction rights. 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