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Leslie & Irene Dube Foundation Inc. v. P218 Enterprises Ltd. (2014),  2014 CarswellBC 2916 (B.C. S.C.)

This proceeding concerned the receivership of a retail, office and residential real estate development in Kelowna, British Columbia called "Sopa Square" (the "Development").

The receiver (the "Receiver") of the Respondents, P218 Enterprises Ltd., Wayne Holdings Ltd. and The Sopa Square Joint Venture (collectively, the "Debtors"), sought the following:

(a) approval of a stalking horse bidding process in respect of the sale of the assets of the Development;
(b) a vesting order to the Development in the stalking horse bidder, subject to the outcome of the stalking horse bidding process;
(c) approval of a pre-stratification contract in respect of proposed strata lots in the Development;
(e) approval of the Receiver's activities as set out in the Receiver's First and Second Reports.

The Receiver also sought an order sealing an appraisal of the Development dated March 3, 2014 on the basis that its disclosure may unduly prejudice the marketing of the Development.

The Respondent, Valiant Trust Company ("Valiant Trust"), was the trustee for 36 original investors in the Development, each of whom held a bond from the Debtors entitling the bondholder to purchase a unit in the Development (the "Bond Holders").

The Development ran into financial difficulty. Builders liens were filed and the project was halted due to lack of financing. As part of a recapitalization plan, the lien claimants (the "Lien Claimants") agreed to discharge their liens and consolidate the amounts they were owed into a subordinated mortgage, which allowed additional financing to be provided by the lead lender, the Petitioner, Leslie & Irene Dube Foundation Inc. ("Dube Foundation").

The recapitalization plan failed, resulting in the receivership proceeding being commenced in December 2013. The
Receiver was appointed on January 27, 2014. The Receiver was empowered to market the Development and to negotiate such terms and conditions as it, in its discretion, deemed appropriate.

The Receiver determined that the best course of action was to complete Phase 1 of the Development and market it without completing Phase 2.

In order to complete Phase 1, the Receiver borrowed $2.5 million from Maynards Financial Ltd. ("Maynards") secured by a priority Receiver's Borrowing Charge subordinate only to the existing first mortgage of Interior Savings Credit Union ("ISCU").

The major creditor, Dube Foundation, was owed approximately $21.3 million, and Dube Foundation made it clear that it would oppose any sale of the Development that resulted in it receiving less than substantially all of its mortgage security. Dube Foundation's mortgage ranked behind the ISCU mortgage (approximately $5 million), the Maynards mortgage ($2.5 million) and property taxes of approximately $275,000.

An appraisal of the Development dated April 22, 2013, nine months before the appointment of the Receiver, and prior to the completion of Phase 1, valued Phase 1 of the Development at $21.575 million and Phase 2 at $6.83 million for a total of $28.405 million.

The Receiver obtained a second appraisal of Phase 2 dated March 2014, which was based upon an inspection of the Development on December 30, 2013.

The Receiver concluded that the most effective and efficient way to sell the Development was through a stalking horse sale process. That process involved the Receiver identifying a potential buyer (the "stalking horse") and negotiating an agreement with the stalking horse for the purchase of the assets. The stalking horse's purchase price would become the floor price for a subsequent bidding process, which would take place to determine if a better price could be achieved. The premise is that the stalking horse has undertaken due diligence for determining the value of the assets and that other bidders can then rely on the value attached by the stalking horse to those assets. If no bid is received during the bidding process that exceeds the stalking horse's bid, the stalking horse becomes the purchaser. If a qualified bid is received that exceeds the stalking horse bid, the stalking horse receives a termination or break fee.

In July 2014, Dube Foundation, with the assistance of the Receiver, entered into a Term Sheet with Aquilini Investment Group ("Aquilini"). It was contemplated that Aquilini would submit a stalking horse bid to the Receiver and Dube Foundation would provide financing if its bid was successful.

On August 12, 2014, Aquilini (through an entity called AD Sopa Limited Partnership) entered into a stalking horse bid agreement (the "SH Agreement") with the Receiver. The SH Agreement provided for a purchase price of $29.5 million and a termination fee of $1.5 million if a better bid was submitted.

Justice Weatherill noted that the use of stalking horse bids to set a baseline for a bidding process in receivership proceedings has been recognized by Canadian courts as a legitimate means of maximizing recovery in a bankruptcy or receivership sales process: CCM Master Qualified Fund Ltd. v. blutip Power Technologies Ltd. (2012), 2012 CarswellOnt 3158, 2012 ONSC 1750, 90 C.B.R. (5th) 74 (Ont. S.C.J. [Commercial List]) ["CCM"]; Bank of Montreal v. Baysong Developments Inc. (2011), 2011 ONSC 4450, 2011 CarswellOnt 8285 (Ont. S.C.J.) ["Baysong"] and Digital Domain Media Group Inc., Re (2012), 3 C.B.R. (6th) 320, 2012 BCSC 1567, 2012 CarswellBC 3245 (B.C. S.C. [In Chambers]).

The factors to be considered when determining the reasonableness of a stalking horse bid are those used by the court when determining whether a proposed sale should be approved. Some of those factors were set out in Royal Bank v. Soundair Corp. (1991), 7 C.B.R. (3d) 1, 83 D.L.R. (4th) 76, 46 O.A.C. 321, 4 O.R. (3d) 1, 1991 CarswellOnt 205 (Ont. C.A.) at paragraph 16:

(a) whether the receiver has made a sufficient effort to get the best price and has not acted improvidently;
(b) the efficacy and integrity of the receiver's sale process by which offers were obtained;
(c) whether there has been unfairness in the working out of the process; and
(d) the interests of all parties.

The Receiver submitted that the SH Agreement was reasonable based upon the appraisals it had received. The Receiver proposed to follow the Bidding Procedures in marketing the Development. The Receiver submitted that the stalking horse bidding process would provide a public and transparent process under which potential purchasers would be identified and the Development would be marketed. A detailed timetable was also submitted. The Receiver submitted that each of the factors set out in Soundair had been or would be met. The Receiver further submitted that the Termination Fee was reasonable because it not only reflected the expenses that Aquilini had incurred in conducting its due diligence, but it also would provide compensation to Aquilini for having committed the deposit funds, thereby forgoing the use of the funds for other potential opportunities. The deposit was $1 million. The Receiver also said that the Termination Fee provided value for the cost of stability that was being achieved through the process and that the Termination Fee was within the range for termination fees of 1% to 5% that had been approved in other stalking horse cases. (See Baysong at paragraph 44.)

Valiant Trust opposed approval of the SH Agreement. Counsel submitted that there was a complete absence of evidence that would allow the court to make a determination as to whether the SH Agreement was reasonable. Counsel argued that there was no evidence regarding what, if any, alternate marketing strategies had been considered. He also pointed out that the first appraisal was 18 months old, was done before Phase 1 was completed and had not been updated. The second appraisal was based upon an inspection of the Development that had taken place over nine months before these applications were brought before the Court and also before Phase 1 was completed. Counsel for Valiant Trust also argued that the Development had not been marketed. Moreover, counsel argued that the Receiver's submission that the Termination Fee was justified because it would minimize the due diligence costs of other potential bidders could not be supported and that the Termination Fee of $1.5 million would put a "millstone" around the necks of potential bidders because they would have to bid at least $1.5 million more than the SH Agreement price in order to qualify.

Justice Weatherill noted that there were many stakeholders in the matter, including the Bond Holders and the Lien Claimants who would likely end up with nothing if significantly better bids were not received. Weatherill J. also stated that in order for the process to be effective, the sale process must allow sufficient opportunity for potential purchasers to come forward with offers, recognizing that a timetable for the sale of the project required that interested parties must move relatively quickly in order that the value of the project was preserved and not be allowed to deteriorate.

Justice Weatherill had several concerns with the process. He was of the view that no course of action other than a stalking horse bidding process appeared to have been considered, including the traditional tendering process. There was no evidence that the Receiver had attempted to market the Development beyond discussions with three developers. There was no evidence regarding the extent to which the Receiver had attempted to identify other developers who might have been interested in bidding and there was no evidence from which the court could assess whether the economic incentives behind the SH Agreement were fair and reasonable. Further, the appraisals of the Development were dated. In addition, while Weatherill J. accepted the concept of the Termination Fee, the mere fact that the proposed Termination Fee was within the "range of reasonableness" as determined in other cases did not mean that it was reasonable in this case. The court has a gatekeeping function to ensure that the fee is reasonable in each case. The court is not simply a rubber stamp for the agreement that was made.

In this case, there was no evidence regarding how the Termination Fee was arrived at or how the $1.5 million fee compared with the expenses incurred by Aquilini in respect of its due diligence. Weatherill J. was of the view that such evidence was required. He concluded that the Termination Fee of $1.5 million may well have had a substantial adverse effect on the Bond Holders and the Lien Claimants. Further, there was no evidence of any urgency regarding the sale of the Development.

Accordingly, Weatherill J. concluded that the Receiver had not demonstrated that the SH Agreement was in the best interest of the creditors as a whole. The application for a Bidding Procedures Order was dismissed.
In the circumstances, there was no need to address the issue of the vesting order. The pre-stratification order was granted. The increase in the borrowing charge was authorized. The First Report of the Receiver was approved. Approval of the Second Report was deferred as it addressed the sales process. Weatherill J. was also the view that it was not necessary to consider the request for a sealing order, given his ruling on the SH Agreement.

See Houlden & Morawetz, Bankruptcy and Insolvency Law of Canada:
C§54 — Sale of Assets
L§20 — Sale of Assets by a Receiver and Manager

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