Supreme Court of Canada decision in “Redwater” clarifies the landscape for oil and gas industry in Alberta

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Litigation Alert

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On January 31, 2019, the Supreme Court of Canada released its much-anticipated decision in Orphan Well Association et al. v. Grant Thornton Limited et al., 2019 SCC 5, commonly referred to as “Redwater”.  Specifically, Redwater clarifies the priority as between environmental obligations and those afforded to secured creditors in insolvency proceedings. More broadly, it explains the relationship between provisions of federal and provincial legislation that appear to conflict with one another, particularly the federal Bankruptcy and Insolvency Act (the “BIA”) and the provincial legislation regulating the oil and gas industry in Alberta. Redwater directly impacts, among others, financial institutions, insolvency professionals, oil and gas companies and the regulatory regime overseen by the Alberta Energy Regulator (the “AER”) under Alberta’s Oil and Gas Conservation Act  and Pipeline Act (the “Provincial Legislation”).

Background

The story behind Redwater is, unfortunately, not unique. As a result of low commodity prices during the course of mid-2014 to early 2015,  Redwater Energy Corp. (the “Company”) became insolvent. On May 12, 2015, the Company’s secured lender, Alberta Treasury Branches (now ATB Financial) (“ATB”), obtained an Order from the Court of Queen’s Bench of Alberta appointing Grant Thornton Limited (“Grant Thornton”) as the receiver of all of the Company’s current and future assets, undertakings and property.

Subsequently, in October of 2015, ATB applied for, and was granted, an order assigning the Company into bankruptcy and appointing Grant Thornton as the trustee in bankruptcy under the BIA.  Shortly thereafter, Grant Thornton disclaimed the Company’s uneconomic assets pursuant to section 14.06(4) of the BIA (the “Renounced Licensed Assets”).

Decisions of the lower courts

At first instance, the Court of Queen’s Bench was faced with cross-applications on behalf of:

  • the AER and the Orphan Well Association (“OWA”), challenging Grant Thornton’s renunciation of the Renounced Licensed Assets; and
  • Grant Thornton, seeking approval of a sales process that included only the Company’s remaining assets, i.e. excluding the Renounced Licensed Assets.

The AER argued that it retained statutory authority to refuse to transfer the associated licenses and, if Grant Thornton wanted to transfer less than all of the Company’s assets, it could undertake one, or a combination, of the following steps to reduce the Company’s liabilities:

  • post a security deposit;
  • abandon and reclaim some licensed properties; and/or
  • package uneconomic assets with those with positive value such that a purchaser would take both the burden and the benefit the Company’s assets.

Central to the AER’s argument is the “polluter pays” principle that exists under the Provincial Legislation. The AER argued that proceeds from the sale of the Company’s assets should first be applied to costs associated with the abandonment and reclamation (often referred to as end of life) obligations of the uneconomic assets. Conversely, Grant Thornton and ATB argued that Grant Thornton was entitled to:

  • disclaim those assets that were not marketable; and
  • distribute the proceeds to ATB pursuant to its security.

Former Chief Justice Wittmann of the Court of Queen’s Bench and Justice Slatter for the majority of the Alberta Court of Appeal concluded that the regulatory framework under the Provincial Legislation presented an operational conflict with the provisions of the BIA. Pursuant to the doctrine of paramountcy, the lower courts ruled that the provisions of the Provincial Legislation were inoperable to the extent they conflicted with the BIA.  

Decision by the Supreme Court of Canada

Chief Justice Wagner, writing for the majority, in a split 5-2 decision allowed the AER’s appeal and made the following conclusions that will impact both current and future insolvency proceedings of operating oil and gas companies:

  • there is neither an operational conflict nor a frustration of purpose between section 14.06(4) of the BIA and the provisions of the Provincial Legislation that require a licensee (which is defined to include a trustee in bankruptcy) to remain responsible for end of life obligations;
  • section 14.06(4) of the BIA is clear and unambiguous and, when invoked by the trustee to disclaim real property, the trustee will not be personally liable for failing to comply with environmental orders. The provision is silent regarding the liability of the bankrupt estate;
  • the trustee retains the protection afforded to it under the federal BIA (i.e., no personal liability) and the privilege to which it is entitled to under the provincial law, namely, the ability to operate the bankrupt’s assets in a regulated industry; and
  • based on a proper analysis of the SCC decision in Abitibi1, the AER was not asserting a claim that was provable in bankruptcy.  Rather, when the AER enforces the end of life obligations, it is enforcing a public duty, does not stand to benefit financially and is not a creditor in the bankruptcy.

Implications

Before the litigation commenced in Redwater in late 2015, court officers and the AER worked together cooperatively in insolvency proceedings to address issues related to oil and gas assets that could not be sold after being exposed to the market. Although depressed commodity prices strained that working relationship, the decision in Redwater means that court officers will once again have to market all of a corporation’s oil and gas assets, determine the offer that best maximizes the recovery for the creditors and work with the AER to manage the licensed assets that were not sold during a sales process. This may result in lower recoveries from the sales process but it should have the effect of reducing the burden on the Orphan Well Fund as it does not allow the court officer to predetermine that non-producing assets have no strategic or economic value and should be orphans. 

While it is difficult to predict the impact on the cost of borrowing, lenders will, at a minimum, review their current borrowing policies and there is a risk that they may change dramatically. Although lenders typically account for end of life obligations, they may be more conservative in their borrowing base calculations knowing that they may only recover in an insolvency after several millions of dollars are paid from the bankrupt estate on account for end of life obligations. 

Over the coming months, the true impact of the Redwater decision will be felt by financial institutions, oil and gas companies, insolvency professionals and the regulatory regime in Alberta.



 

[1] Newfoundland and Labrador v. AbitibiBowater Inc., 2012 SCC 67, [2012] 3 S.C.R. 443