cpbi webinar - indalex: what impact has the supreme...

CPBI Webinar - Indalex: What Impact has the Supreme Court of Canada’s Decision had on Pension Plans? Paul W. Litner Jonathan Marin Tuesday May 6, 2014 - 1 PM EDT

Indalex: What Are the Pension Implications?

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“When a business becomes insolvent, many interests are at risk. Creditors may not be able to recover their debts, investors may lose their investments and employees may lose their jobs. If the business is the sponsor of an employee pension plan, the benefits promised by the plan are not immune from that risk.… Pension plans and creditors find themselves in a zero-sum game with not enough money to go around. At a very general level, this case raises the issue of how the law balances the interests of pension plan beneficiaries with those of other creditors.” The Honourable Mr. Justice Cromwell

Overview

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· What is the Indalex case about?

· What did the Supreme Court of Canada decide?

· Why is the Indalex case important for your organization?

· What are the general lessons to incorporate into your pension governance framework?

· How have subsequent courts interpreted Indalex in the insolvency context?

· What does the case tell us about the Supreme Court of Canada’s evolving view towards pension plans?

What is the Indalex Case About?

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· Indalex Limited (Indalex) was the sponsor and administrator of two plans: ¢ Salaried Plan ¢ Executive Plan

· Indalex became insolvent and sought protection

from its creditors under the Companies’ Creditors Arrangement Act (CCAA)

· When CCAA proceedings began: ¢ Salaried Plan - wound up ¢ Executive plan closed – not wound up

· Both Plans had deficiencies


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· CCAA Court authorized Indalex to obtain DIP financing

· CCAA Court ordered that the DIP lenders had a

“super-priority” over existing debt, equity and other claims (expressly including statutory deemed trust and statutory liens)

· Indalex brought motion for approval of sale of its assets and distribution of sale proceeds to DIP lenders


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· CCAA court approved distribution of sale amounts to DIP lenders subject to the monitor holding a reserve sufficient to cover DB pension deficits

· CCAA court-ordered “super priority” of DIP lenders challenged by pension plan members seeking to have the sale proceeds applied to pension deficits in Indalex DB plans

· Issue of whether sale proceeds would be applied to pension deficits argued all the way up to the Supreme Court of Canada

What Did the Supreme Court Decide?

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· Three key issues: ¢ Scope of PBA deemed trust ¢ Priority of the deemed trust in relation to DIP

charge ¢ Breach of fiduciary duty (and appropriate remedy)

· 3 separate judgments – leads to uncertainty

regarding whether there was a majority view on some points

· Long term implications for lending community,

insolvency community, pension community continue to be digested

(a) Scope of the PBA Deemed Trust

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· Statutory deemed trust exists in Section 57(4) of the Ontario PBA

· PBA, Section 75 – requires the employer of a

wound up plan to: ¢ Pay into the pension fund an amount equal to the

total of all payments due or accrued to the fund that have not yet been paid (s. 75(1)(a)); plus

¢ Any additional amounts relating to the shortfall between the value of certain benefits and the assets available to pay those benefits in respect of Ontario plan members (s. 75(1)(b)).

· Does the PBA statutory deemed trust extend to wind-up deficiencies?

(a) Scope of Deemed Trust (Cont’d)

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· Conclusion: ¢ Salaried Plan: entire amount of wind up deficiency

is subject to PBA deemed trust ¢ Executive Plan: deemed trust does not apply to

wind-up deficiency

· Reasons: ¢ Contributions have “accrued” when liabilities are

completely constituted, even if payment itself falls on a later date

¢History of PBA shows expansion of deemed trust concept over the years

¢ Remedial nature of the PBA deemed trust provisions

(b) Priority of Deemed Trust and DIP Charge

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· Issue: what has priority – the DIP charge or the PBA deemed trust?

· Supreme Court unanimously agreed that the super-priority of the DIP charge made under the CCAA prevailed over the PBA deemed trust

· Basis for decision is doctrine of federal paramountcy

(c) Breach of Fiduciary Duty

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· Supreme Court – necessary to consider equitable remedies for breach of fiduciary duty despite finding of DIP priority

· Majority accepted that PBA scheme contemplates that employer can have dual role and potential conflicts can arise

· Unanimous view – breach of fiduciary duty arose because Indalex failed to address/resolve conflicts of interest

¢ Different views on what amounted to a conflict of interest in this case

¢ Different views on how to resolve the conflict once it arose

· However, majority of the court (5-2) found that

constructive trust was not an appropriate remedy

The Decision Scorecard

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ISSUE RESULT

DOES DEEMED TRUST ON WIND-UP EXTEND TO WIND-UP DEFICIENCY

YES (4-3)

WHICH HAD PRIORITY: SALARIED PLAN DEEMED TRUST OR DIP LOAN

DIP LOAN (7-0)

DID INDALEX BREACH ITS FIDUCIARY DUTIES?

YES (7-0)

IS CONSTRUCTIVE TRUST THE RIGHT REMEDY FOR THE BREACH?

NO (5-2)

Why is the Indalex Case Important?

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· Departure from prior case law on scope of deemed trust

· Introduced pension fiduciary complexities in context of CCAA, with broader implications for plan administrators

· Has had important implications for: ¢ Lending community ¢ Insolvency community ¢ Pension community

Lending Community

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· Lenders gained comfort from: ¢ Rejection of constructive trust remedy ¢ Acceptance of priority given to DIP loans

· Lenders continue to have fall back that provincial

deemed trust not recognized in bankruptcy proceedings

· However, loan agreements after Indalex typically contain more restrictive covenants and more extensive reporting requirements ¢ Lenders will act to protect their interests or not

lend their money ¢May result in renegotiation of existing loan

agreements

Insolvency Community

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· Gained comfort from acceptance of priority given to DIP loans

· Deemed trust applying to entire wind-up deficiency may lead to more use of bankruptcy proceedings

· Implications for process for obtaining court orders that affect pension plan members ¢ Enhanced notice requirements? ¢ Independent counsel?

Pension Community

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· Supreme Court decision has broader implications for all plan sponsors/plan administrators in two areas:

1. Conflicts of Interest

-When do they arise? -How should they be resolved?

2. Governance process -Is the “two hats” approach dead? -The Board and its delegates

(a) Conflicts of Interest

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· Supreme Court was unanimous in holding that Indalex had breached its fiduciary duties

· But the Court struggled identifying exactly ¢Which conflicts led to breaches of duty; ¢When those conflicts arose; ¢ The proper steps that could be taken to avoid or

remedy conflicts

· Essential to keep sponsor and administrator roles distinct

When does a conflict of interest arise?

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· Three judges (Cromwell, McLachlin, Rothstein): ¢ “a situation of conflict of interest occurs when

there is a substantial risk that the employer-administrator’s representation of the plan beneficiaries would be materially and adversely affected by the employer-administrator’s duties to the corporation”

¢ Indalex seeking CCAA order giving DIP lenders super-priority put Indalex in a conflict of interest.

· Mere existence of conflict not fatal · Failure to address the conflict gave rise to breach

When does a conflict of interest arise?

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· Two judges (Deschamps and Moldaver): ¢ Conflict arose because Indalex had a duty to pursue

claims against itself for unpaid contributions that came into conflict with the corporation’s interests

¢ Seeking CCAA order giving DIP lenders super-priority gave rise to conflict

· Two judges (LeBel and Abella): ¢ Conflict arose from moment Indalex started to

contemplate putting itself under CCAA protection

Breach of Fiduciary Duty - Summary

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STEP BREACH OF FIDUCIARY DUTY?

SEEKING CCAA PROTECTION TO OBTAIN CREDITOR PROTECTION

NO (5-2)

FAILURE TO GIVE NOTICE TO PLAN BENEFICIARIES OF APPLICATION FOR CCAA PROTECTION

NO (5-2)

OBTAINING AN ORDER EXCLUDING SOLVENCY PAYMENTS

NO (5-2)

SEEKING SUPER-PRIORITY FOR DIP LOAN WITHOUT NOTICE TO PLAN MEMBERS

YES (7-0)

Lessons from Indalex regarding when conflicts of interest arise

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· Does Indalex suggest an end to the “two hats” doctrine?

· Majority of SCC accepted PBA scheme contemplates employer can have dual role and potential conflicts can arise

¢ However, Indalex could not disregard potential conflicts when wearing its “corporate hat”

· Doctrine “refined” rather than repealed?

¢ Majority (5-2) found conflict of interest arose when company sought CCAA court order giving the DIP loan super-priority (i.e., plan sponsor function)

¢ However, the existence of the conflict did not in and of itself lead to breach of fiduciary duty

¢ Majority (5-2) found breach to be failure to provide reasonable notice of DIP court motion (i.e., plan administrator function)

· Highlights need for greater attention to potential conflicts of

interest arising from exercise of plan sponsor functions

Lessons from Indalex regarding when conflicts of interest arise

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· Summary – “two hats” approach refined: ¢Mere existence of conflict under dual role did not

preclude employer from exercising sponsor rights and powers it has outside its role as plan administrator, BUT

¢ Employer cannot ignore steps it should then take within the scope of its authority as plan administrator to address identified conflicts to avoid any breach of its fiduciary duties

Resolving Conflicts of Interest – what was said in Indalex

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· Deschamps: any solution has to “fit the problem” – may differ in every case

· Cromwell: mandatory obligation to bring the conflict to the attention of the CCAA judge ¢While CCAA judge could appoint replacement,

seemed to accept sufficiency of employer/administrator if conducting itself as independent administrator

· Lebel (dissent): Indalex should have resolved

conflict by transferring its functions to an independent administrator

Lessons Regarding How Conflicts Should Be Resolved

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· Must identify whether plan administrator or plan sponsor function (if the latter, does it trigger any plan administrator responsibility?)

· A range of possible actions/solutions to conflicts of interest are available – what is required depends on the circumstances

· Significance of conflict is an important factor – extreme

steps not always required

· Importance of: ¢ Substantive analysis of potential effect of any decisions

on plan beneficiaries ¢ Documenting decision-making processes ¢ Where necessary, measures to avoid conflicted decision

making or at least independent representation of beneficiaries’ interests

Lessons Regarding How Conflicts Should Be Resolved

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· Conflict of interest policies ¢ As a matter of good governance should require

disclosure of conflicts ¢ Protocols to identify conflicts and deal with them

through notice or other means · Can employers, as a legal and practical matter,

resign as administrator and transfer role to an independent third party? ¢ Limitations in pension legislation on who is eligible

to be a plan administrator ¢ Committee appointment possible, but may not be

practical or truly independent ¢ Pension regulator may replace administrator in

certain prescribed circumstances

(b) General Lessons for Pension Governance

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· What situations might give rise to conflicts of interest as a result of the employer’s dual role? ¢ Supreme Court’s approach is helpful even though

guidance specific to CCAA proceedings

· Cases of individual conflict (e.g., board director or pension committee member) ¢Normal resolution is disclosure and abstention from

decision-making

· However, where employer has dual role as plan sponsor and plan administrator there is an added dimension of concern – inherent conflicting roles associated with same subject matter

Essential Governance Takeaways from Indalex

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· Board/committee members must know when they are acting in sponsor vs. administrator capacity

· Need to understand scope of their authority (their

powers and limitations) under each role

· Sponsor action not prevented because it raises a conflict with administrator duties BUT there may be required administrator follow-up action as a plan fiduciary ¢ Can’t cross-thread sponsor/administrator powers

(i.e., administrator not required to prevent or undo sponsor action other than on a compliance challenge)

¢ Follow-up action limited to administrator powers

Indalex – the Aftermath

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Grant Forest Products Inc. (Re) (Ontario Superior Court) · Case distinguished from Indalex:

¢ Neither DB plan in windup process at time of CCAA order – no request made for DIP prior to a sale of assets following the initial CCAA order

¢ CCAA order contemplated business would continue for purpose of orderly disposition of assets

· Based on Indalex, found deemed trust that arises upon

wind up prevails when windup occurs before insolvency ¢ “The Supreme Court of Canada decision in Indalex

stands for the proposition that provincial provisions in pension areas prevail prior to insolvency but once the federal statute is involved the insolvency provision regime applies”

· Leave to appeal granted by the Ontario Court of Appeal


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Aveos Fleet Performance (Quebec Superior Court) · Aveos sponsored a DB plan registered under the federal

PBSA. Initial CCAA order suspended special payments to the plan.

· Superintendent filed a motion seeking a declaratory judgment that deemed trust under PBSA required Aveos to pay special payments in priority to secured creditors.

· Quebec Superior Court found that secured creditors had priority

¢ When deemed trust arose, creditors had already perfected security interest in Aveos’ assets

¢ PBSA deemed trust only has effect in CCAA proceeding if CCAA expressly provided for its priority


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Timminco Ltee · Secured creditor is not a DIP lender (unlike Indalex,

doctrine of paramountcy does not arise) · Unlike Ontario’s PPSA, Quebec does not have

specific legislation to establish deemed trusts have priority

· SPPA and Civil Code resolve priority issue by excluding contributions owing to the DB plans (inclusive of interest) from Debtor’s assets subject to the Creditor’s security interest

· Court clarified that reasoning would not apply in respect of a deficit on plan termination ¢ Such amounts would constitute a “debt” rather

than a “contribution” and would rank as an unsecured claim

SCC - Evolving View Towards Pension Plans?

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Pension Surplus · Schmidt v. Air Products Canada Ltd. (1994)

· Monsanto Canada Inc. v. Ontario (2004)

· Buschau v. Rogers Communication Inc. (2006)

· Kerry (Canada) Inc. v. DCA Employees Pension

Committee (2009)

· Burke v. Hudson’s Bay Co. (2010) Pension Plan Underfunding · Sun Indalex Finance, LLC v. United Steelworkers (2013)

SCC – Evolving View Towards Pension Plans?

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Schmidt v. Air Products Canada Ltd. (1994) · The results in these appeals demonstrate the need for

legislation. In both appeals the pension fund was created to benefit the employees. They had a real stake in the fund which was created for their benefit and funded in part by their contributions. It seems unfair that there should be a different result for these two groups of employees based only upon a finding that a trust was created in one case but not in the other.

· In my opinion there should be a legislative scheme set up for determining the proportion of the surplus which should be awarded to the employer and the employees. It could be based at least in part upon their contributions to the creation of the surplus. Principles of equity and fairness should encourage legislators to draft a scheme to provide for the equitable distribution of any surplus in pension plans that are terminated.


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Monsanto Canada v. Ontario (Superintendent) (2004):

· “... The voluntary nature of the private pension system requires the interventions in this area to be carefully calibrated. This is necessary to avoid discouraging employers from making decisions advantageous to their employees. The Act thus seeks, in some measure, to ensure a balance between employee and employer interests that will be beneficial for both groups and for the greater public interest in established pension plans.”


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Kerry (Canada) Inc. v. DCA Employees Pension Committee (2009)

· “...In my respectful view, it is not the role of the courts to find the appropriate balance between the interests of employers and employees. That is a task for the legislature.”

· “The role of the courts is to ascertain and uphold

the rights of the parties in accordance with the applicable statutory and common law and the terms of the relevant documents”


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Sun Indalex Finance, LLC v. United Steelworkers (2013)

· Insolvency can trigger catastrophic consequences. Often, large claims of ordinary creditors are left unpaid. In insolvency situations, the promise of defined benefits made to employees during their employment is put at risk. These appeals illustrate the materialization of such a risk. Although the employer in this case breached a fiduciary duty, the harm suffered by the pension plans’ beneficiaries results not from that breach, but from the employer’s insolvency.

Questions?

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Contact information: Paul W. Litner – [email protected] Jonathan Marin – [email protected]

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