Practical Strategies for Dealing With Employee Claims in Restructuring Proceedings_by Allan Nackan & Lily Harmer_Jan 27 2011

January 2011

Lessons Learned: Practical Strategies for Dealing with Employee

Claims in Restructuring Proceedings

Presented at OBA Institute 2011 Program

By: Lily Harmer, Partner Paliare Roland Rosenberg Rothstein LLP

and

Allan Nackan, Partner Farber Financial Group

A. INTRODUCTION

Employment related claims in restructurings are frequently significant. Courts recognize that

employees have important and often unique interests as stakeholders in insolvent companies.

It is becoming increasingly common in insolvency proceedings for employee groups to obtain

representation orders with funding, and for unions to be active and well-versed in insolvency

matters.

Recent legislative initiatives highlight the increasingly recognized importance of employee

interests in insolvency proceedings. Relevant statutes and the common law continue to evolve

in this direction.

In this paper, we address some of these evolving issues. We first look at fair representation of

employee interests in restructurings, followed by an overview of the recent amendments to the

Companies Creditors Arrangement Act (CCAA) and the Bankruptcy & Insolvency Act (BIA)

impacting employees. The final two sections of this paper address employee benefit issues:

first health and welfare related benefits, then pension benefits.

B. FAIR REPRESENTATION OF EMPLOYEE INTERESTS IN RESTRUCTURING

1) The importance of employee interests

Employee groups have become more engaged and have begun speaking out more often

and more loudly in insolvency matters in recent years. In some cases they have also been

at the forefront in finding workable solutions for insolvent companies1. Employees typically

hold a large voting block which will be required to achieve thresholds for approval of a

CCAA Plan or BIA Proposal. As a group, employees (including pensioners) are recognized

and listened to by courts, and by wise stakeholders who understand that employee interests

are a key component of any successful restructuring.

Employee groups have a real and compelling interest in the outcome of restructurings. As

stakeholders, they stand to lose their jobs, their benefits, even their pensions. Disabled

employees and former retired employees stand to lose the only source of income they may

1 For instance, in the Stelco CCAA restructuring the union (the USW) was instrumental in introducing the successful

purchaser to the process and in supporting the restructuring plan that recognized their successful bid.

have for the rest of their lives their disability benefits, and some or all of their pensions.

The stakes are therefore enormous. With such stakes, emotions run high. Moreover,

different employee groups may have different interests at different times. Fair

representation of employee interests therefore, while critically important, presents some

challenges.

2) Types of representation: union and non-union

Representation of employee interests may come in different forms. First, there may very

well be one or more unions with exclusive bargaining rights for their members. Second,

representative counsel orders for non-union employees have been used increasingly in

CCAA cases. Third, there may be employee groups who wish to have separate

representation from either their union, or from rep counsel for the majority. These

sometimes competing interests raise difficult issues of real or perceived conflicts of interest,

scope of representation, adequacy of resources, ability to respond to the real time demands

of insolvency litigation, etc.

a) Unionized employees

Unions have become increasingly sophisticated in their involvement in restructurings.

Union involvement has been accepted by courts as appropriate and often essential to

successful restructurings. This requires other creditors to take unions and their

demands seriously, particularly if the insolvency is to succeed in preserving an ongoing

business in some form. Unions and their members must typically ratify a new collective

agreement with the new owner coming out of a restructuring this gives them a unique

opportunity to negotiate outside of a plan of arrangement, and even to negate a

successful plan if their collective agreement vote comes after the vote on a plan.

Sometimes unions are in a position to strike if a collective agreement expires during an

insolvency, or perhaps if a notice to bargain is served pursuant to section 65.12 of the

BIA or section 33 of the CCAA. This can either give the union additional bargaining

power if an ongoing business is part of the plan and labour is essential to that ongoing

business, or result in labour chaos. Either way, from a practical perspective, such issues

must be adequately recognized and addressed.

Unions have a distinct advantage in ensuring fair representation of their members

interests in an insolvency. They already have in place the infrastructure for notice,

sharing of information, ratification, etc. Their leadership has the democratic support of

the members. At the same time, however, involvement in insolvency proceedings

usually requires significant resources, access to expert financial and actuarial advice,

and the political capital to make appropriate decisions acceptable to the membership in

real time. Some or all of these factors may play a significant role in how involved a

union may become, or in how responsive a union may be in the positions it takes.

b) Non-unionized employees

For non-union employees, it has become common for representatives and their counsel

to be appointed by the courts for employee groups. This serves a number of purposes:

it gives this group a cohesive, coordinated voice in the process, as well as access to

needed resources, while permitting the court and other stakeholders to rely on rep

counsel for practical purposes such as service, notice, execution of settlement

agreements, and other necessary acts which would be otherwise hugely unwieldy.

Recent amendments to the CCAA and the BIA are supportive of the concept of

representation for employees and other creditor groups. In particular, section 11.52 of

the CCAA and section 64.2 of the BIA give the court the ability to grant an administrative

charge to secure the fees of financial, legal and other experts engaged by an interested

person if the court is satisfied that the security or charge is necessary for the effective

participation of that person in proceedings.

3) Optimal time to get involved

It is often beneficial for employees to become involved in the restructuring process as early

as possible. Issues may arise in respect of the Initial Order and its immediate aftermath:

How will pension contributions be treated? Will current service pension contributions and

special payments towards a pension funding deficit continue to be funded? What will

happen to ongoing health and welfare benefits? These may be of critical importance to

employee groups. Employee support is also usually critical in obtaining approval for a

restructuring plan, given their sheer numbers. Employee groups may also have a real

interest in the approval process for the sale of assets, given the potential impact on

employment, pension and benefits, etc. It is important, then, for employee groups to get

organized and to seek representative status at the earliest opportunity.

4) Benefits of co-ordinated information flow and decision-making

Once representatives and their counsel are appointed, they often face significant challenges

in providing fair representation to their members, particularly in the case of non-union

employees where a unions infrastructure is not present. The breadth and significance of

the issues to be addressed will require the ability to disseminate information quickly, and to

respond to questions and issues from often very concerned members, while at the same

time respecting the confidentiality of that information.

Ultimately, court appointed representatives have the authority to make binding decisions

affecting members of the group who have not chosen to opt out, subject always to court

approval. These decisions may not be popular with all members, leading to dissension and

sometimes unpleasant confrontations with distraught people facing the prospect of a

significant and very personal financial loss. From a practical perspective, it is important for

other stakeholders to be aware of these dynamics.

It is important for debtor companies, the Monitor, other creditors, and the court to

understand the pressures faced by employee representatives, and the critical role employee

groups can play in a restructuring Fair representation does not always mean that every

employee group will be represented as they might wish; it does mean, however, that

employee groups are represented and funded in a way that permits meaningful participation

in an often complex process. An understanding of the pressures faced by such

representatives in attempting to serve the interests of an often diverse group of employees,

former employees, disabled employees, unionized employees, and retired employees is

important to dealing practically and effectively with this usually large, often unwieldy, group

whose only source of income may be at stake.

5) Nortel Networks engaging counsel and managing conflict of interest

The court in the ongoing Nortel Networks insolvency proceedings under the CCAA has

addressed a number of issues in relation to fair representation of employee claims. At its

peak in 2000, Nortel had 93,000 employees worldwide. By January 2009 when it filed under

the CCAA it had 6,000 employees in Canada, with more than 11,000 Canadian pensioners.

At least six motions were brought by different groups seeking court appointed representative

status. These groups included:

two different sets of representatives vying to represent the recently severed

Canadian employees owed termination and severance pay; former employees

including pensioners;

retirees formerly represented by the CAW;

Nortel Continuing Employees;

disabled employees; and

dissenting LTD beneficiaries.

All sought funding and access to corporate information, among other things. Various

conflicts of interest were alleged as between the groups to justify separate representation.

The Court initially appointed one law firm to represent the entire employee group, on the

basis that the process can be best served by having one firm put forth the arguments on

behalf of all employees as opposed to subdividing the employee group. In its analysis, the

Court found its authority to appoint representative counsel under Rules 10/01 and 12.07 of

the Rules of Civil Procedure, as well as in its wide discretion under s. 11 of the CCAA to

both appoint representatives and order that payment of legal and other professional fees be

paid from the debtors estate. The Court relied upon the principles applicable to assessing

commonality of interest when addressing the classification of creditors in the CCAA process

to conclude that the Nortel former employees had a commonality of interest best served by

the appointment of one representative counsel. In subsequent proceedings, the Court also

appointed separate counsel for active employees.

The Court accepted that employees and retirees are a vulnerable group of creditors in an

insolvency, and that they have little financial means to pursue their claims in respect of

pension, termination, severance, retirement payments and other benefit claims in complex

insolvency proceedings. It held further that the granting of a representation order would

provide a social benefit, and would serve to streamline and introduce efficiency to the

process for all parties involved. The courts choice of counsel ultimately rested on the

experience of counsel, the number of people signed up to the particular representative

group, the variety of interests covered by the group, and the significant overlap in those

interests.

The Court rejected the concerns about a conflict of interest as being hypothetical only, and

indicated that should future conflicts arise, further directions could be obtained from the

court at that time. In fact, such a situation did subsequently arise, and steps were taken at

that time to permit limited separate representation for the purpose of dealing with the

particular issues giving rise to the conflict of interest.

The results in Nortel in dealing with the appointment of representative counsel serve to

illustrate the careful balancing required to recognize the vulnerable position of large

employee groups in complex restructurings, with both overlapping and divergent interests,

while preserving efficiency and respecting funding constraints within the estate.

C. RECENT AMENDMENTS TO THE CCAA AND THE BIA IMPACTING EMPLOYEES

In September 2009, fairly extensive amendments were made to the CCAA and the BIA, in order

to bring these statutes in line with evolved practices as well as introduce some new features. A

number of the amendments impact upon employee interests, as detailed below.

1) Introduction of Wage Earner Protection Program (WEPP)2

The Wage Earner Protection Program Act secures the prompt payment of wages, vacation

pay, termination pay and severance pay to employees in a bankruptcy and/or receivership.

An employees claim against the WEPP is the lesser of the unpaid amount or 4 weeks of

insurable earnings under the Employment Insurance Act, which currently equates to a

maximum of approximately $3,254 per employee.

2) Super-priority for unpaid wages and vacation pay

A priority charge has been created by the BIA in favour of employees who are owed

remuneration at the date of bankruptcy or upon the appointment of a receiver (the

Employee Remuneration Charge)3. The Employee Remuneration Charge secures up to

$2,000 of wages, salaries, commissions or compensation for services rendered in the 6

months prior to bankruptcy or receivership (and up to $1,000 for disbursements owing to

2 Established pursuant to the Wage Earner Protection Program Act in July 2008

3 Bankruptcy & Insolvency Act sec. 81.3 and sec. 81.4

travelling salesmen). Compensation includes unpaid vacation pay but does not extend to

unpaid termination or severance pay.

The Employee Remuneration Charge attaches to the current assets of the insolvent

debtor. Where employees have already received payment under WEPP, the federal

governments subrogated claim arising from payment under WEPP will have the benefit of

this first ranking charge.

3) Super priority for unpaid pension contributions

The BIA has been amended to provide a charge (the Pension Charge)4 over all of the

insolvent debtors assets to secure: (i) unremitted employee contributions, (ii) any unpaid

employer defined pension contribution payments, and (iii) any unpaid normal costs as

defined by applicable pension legislation, as at the date of Bankruptcy or appointment of a

Receiver.

The Pension Charge attaches to all of the Companys assets, as opposed to just the current

assets, and these claims will have priority over other creditors in both bankruptcies and

receiverships. There is no maximum amount for the Pension Charge but it should be noted

that it does not extend to funding deficiencies under defined benefit plans nor would it cover

unremitted special payments.

4) Priority for unpaid wages and pension contributions in CCAA restructurings and

BIA Proposals

The Employee Remuneration Charge and Pension Charge are not triggered in

reorganizations under the CCAA or BIA. These charges only arise in the event of a

bankruptcy or receivership, as does the employees entitlement to make a claim under the

WEPP.

However, the CCAA and BIA do, in effect, give wages and pension related claims priority in

restructuring proceedings by requiring that amounts equivalent to those that would have

been secured by the Employee Remuneration and Pension Charge be paid before the

4 Bankruptcy & Insolvency Act sec. 81.5 and sec. 81.6

Courts can approve a CCAA plan or BIA Proposal5. This is intended to achieve uniformity of

treatment of employees among the various restructuring statutes. In practice, however,

there may be circumstances where there are inconsistencies in the treatment of employees.

One example is liquidating CCAA or BIA proposals, a practice which has become more

prevalent. In these instances, the restructuring debtor sells off some or all of its assets while

still under CCAA or BIA protection. Employees who will remain as employees of the

restructured company will obviously favour a successful plan or proposal. However,

terminated employees may, in fact, not do as well as if the company were to wind up its

affairs in a bankruptcy or receivership.

The reason for this is that employees receive a priority amount by way of the Employee

Remuneration Charge of up to only $2,000 in the restructuring, with the balance of their

claims ranking as ordinary unsecured claims. In a bankruptcy or receivership, employees

can claim up to $3,254 from the WEPP under an expanded definition of compensation.

Their entitlement under WEPP will be calculated taking into account unpaid termination and

severance which do not enjoy any priority in a restructuring.

The practical implication of this is that terminated employees may get more money and

potentially sooner in a bankruptcy or receivership than if distribution were implemented

under the Proposal. In its Report to Creditors on the Proposal, the Proposal Trustee

should include separate disclosure to terminated employees that they may be eligible to

receive additional amounts from the WEPP. Such disclosure would allow employees to

make an informed decision of whether the Proposal is in their favour or not.

5) Collective Agreements in force at the time of filing may not be altered except by

agreement among the parties6

While the CCAA and BIA have been amended to allow the reorganizing debtor to disclaim,

resiliate and assign a broad range of agreements, the collective bargaining agreements in

5 Sec. 60 (1.3) of BIA and sec. 6(5) of CCAA require the Courts may only sanction a plan of restructuring if it

provides for immediate payment to employees of equivalent amounts that they would have been qualified to

receive under sec. 136(1)(d) of BIA. In addition, sec 60(1.5) and 60(1.6) of BIA require that provision be made in a

Proposal for payment of normal pre-filing pension contributions, prior to Court granting its approval of a Proposal.

6 sec. 33 of CCAA; sec. 65.12 of BIA

place at the time of filing may not be amended, except by agreement with the bargaining

agent.

If no voluntary agreement can be reached between the company and the bargaining agent,

the CCAA and BIA permit the company to apply to Court to seek an order authorizing the

company to serve a notice to bargain under applicable provincial laws. This was hoped to

have the effect of the requiring the company and bargaining agent to meet to negotiate

amendments to the collective agreement in good faith.

When these provisions were enacted, critics argued that the legislators had not gone far

enough and that the inability to disclaim or amend the collective agreement in Canadian

proceedings would make it difficult to drive a solution with the Union. By contrast, in US

Chapter 11 proceedings, collective agreements can be amended in a restructuring. The

amendments make it clear that, in Canada, collective agreements continue to be valid

despite an insolvency.

What has not been resolved, however, are questions about these provisions will play out in

practice. For example:

will the usual bargaining provisions of the relevant labour relations statutes apply,

including the strike and lockout provisions, once notice to bargain has been given?

what impact will the stay of proceedings have, if any, on this process?

will this give employers an opportunity to unilaterally change terms and conditions

of employment once the bargaining process has broken down?

These amendments are too new for these issues to have played out in real circumstances

only time will tell what practical implications these amendments are likely to have on labour

relations in restructurings.

6) Administrative Charge for interested parties, including employee groups

The CCAA and BIA now provide that the Courts may grant an Administrative Charge7 over

the debtors assets to secure the payment of financial, legal and other experts engaged by

interested parties where the Court is satisfied that the advisors are necessary for the

7 CCAA (sec 11.52) and BIA Proposal (sec 64.2)

interested party to effectively participate in the proceedings, and upon notice to secured

creditors who might be affected. These amendments further enable employee groups to

appoint representative counsel, financial and other advisors and have those parties

remuneration paid on a secure basis from the assets of the debtor. The monitor, creditor

committees and lenders will usually not oppose these requests as it facilitates a more co-

ordinated and effective discussion among stakeholders, rather than dealing with a broad

group of unrepresented employees.

D. EMPLOYER BENEFIT ISSUES

1) The treatment of health and welfare claims

The issue of the treatment of health and welfare trusts and other vehicles through which

employee benefits are provided has been the subject of some discussion lately. Bill S-216

was recently introduced in the Senate, largely as a result of intense lobbying by Nortel

employees in receipt of long-term disability benefits, in an effort to grant priority in an

insolvency to disability plan liabilities. The Bill proposed amendments to both the BIA and

the CCAA. It was voted down in a close vote in the Senate on November 26, 20108.

In the Nortel CCAA proceedings, the status of a health and welfare trust established by

Nortel to fund its employee benefit obligations has been the focus of much time and energy,

and formed much of the impetus for the introduction of Bill S-216. Nortel had established a

trust fund to fund these liabilities, but had neglected to contribute sufficient funds over the

years, leading to a significant funding shortfall. In the spring of 2010, Nortel negotiated an

Employee Settlement Agreement (described in more detail below) to address both the

ongoing funding of the health and welfare trust (HWT), and the allocation and distribution

of the corpus of that trust.9 The court appointed representatives for Nortel employees and

those employees represented by the CAW entered into an agreement with Nortel that Nortel

would continue to pay medical, dental, income and life insurance benefits until December

8 The vote was 6 5 in the Banking Committee of the Senate.

9 The Settlement Agreement contemplated withdrawal of an application for leave to the Supreme Court of Canada

brought by Employee Representatives in relation to motions for amendment of the CCAA Initial Order to permit

payment of certain employee related payments for termination, severance, voluntary retirement and retirement

allowances.

31, 2010, and would establish a fund to contribute to the payment of termination and

severance payments owed. After that time, although the HWT was significantly

underfunded, its corpus would be distributed. Employees agreed that any claims arising

from a shortfall in the HWT would be unsecured claims.

The Court approved the Employee Settlement Agreement, and the Ontario Court of Appeal

dismissed an appeal brought by dissenting long-term disability beneficiaries. Subsequent

motions challenged the manner of allocation and distribution of the HWT, which had been

determined through the use of complex methodologies by court order. That challenge,

which was unsuccessful, is currently under appeal. Ultimately, the Court approved an

interim distribution of a portion of the HWT funds, to attempt to alleviate some of the

potential hardship caused by a complete cessation of payments from that fund after

December 31, 2010.

In an earlier effort to relieve hardship, the Court had established a hardship application

process whereby employees and former employees who met certain financial criteria would

receive a maximum payment equal of up to 8 weeks salary, payable in monthly installments.

While the results do not fully alleviate the losses suffered by these most vulnerable groups

of employees, they are an attempt to address the most pressing concerns in a fair manner

while managing the expectations and interests of other stakeholders.

2) Strategies for restructuring pension plan obligations

Large pension deficits have been prevalent in many insolvency cases in recent years

(including Nortel, GM, Abitibi Bowater etc.). The financial difficulties and the vulnerability to

market factors of plan sponsors have significantly contributed to this trend. Defined benefit

plans have generally not lived up to their promises, in the face of the recent economic crisis,

market declines impacting plan assets, and extended longevity of plan members.

Preventing and then dealing with large pension deficits in situations where the plan sponsor

becomes insolvent is an emotionally charged issue that is fraught with many conflicting

financial and policy agendas. Insolvency professionals, legislators, politicians, and the

Courts continue to grapple with issues of whether priority should be afforded to employee

pensions in restructurings. In recent cases such as Nortel, extensive media coverage has

focused attention on the plight of employees and particularly the impact on retirees and

those on long-term disability.

As described more fully below, Nortel employees were able to secure ongoing funding of

their pension benefits (current service and special payments) and contributions to the health

and welfare trust, at least for a limited time after the filing date. However, as payment of

employee benefits neared an end (and were in fact ultimately terminated on December 31,

2010), employees, assisted by representative counsel, have waged their battles in the

courtroom and escalated their issues in the political arena.

Restructuring of pension obligations and proposed pension reform takes on various faces,

including:

a) Pension reform

The Pension Benefits Amendment Act, 2010 introduced a number of notable

amendments to the Pension Benefits Act in Ontario. These will hopefully insulate plans

to a greater extent in the future and facilitate recovery of ongoing pension plans which

are currently underfunded. However, these kinds of structural changes take years to

bear fruit and are of little assistance to those pensioners currently in the throes of an

insolvency or restructuring.

b) Negotiated continuation of benefits

By actively engaging in the CCAA process, employees or union representatives have

been successful in negotiating a continuation of pension contributions and other

employee benefits in insolvency cases. In some instances, concessions have been

made by other creditors (as in Nortel see below) and in other cases, provincial or

federal governments have contributed to the solution (e.g. Algoma Steel, Stelco).

There is an inherent tension between the financial interests of employees and other

creditors (including bondholders, DIP lenders, and other senior lenders) on issues of

funding of employee pensions and benefits in an insolvency, but deals can be struck for

mutual benefit. Chart I attached hereto contrasts some of the key differences between

the outlook and options available to employees vs. bondholders if a company files for

protection under the CCAA or BIA.

In the example of Nortel, the Initial CCAA order did provide for the ongoing payment of

pension contributions and benefits post-filing. However, there was significant pressure

on Nortels ability to continue to fund its ongoing activities in CCAA, including payment of

these employee benefits. The Canadian head-office was the primary employer of

Canadian employees and sponsor of the various pension and benefit plans, but was

heavily reliant on its US subsidiary, which also filed for protection under Chapter 11, for

its ongoing operating funding. At the time that a new interim funding agreement was

being worked out with the US, a Court-approved Settlement Agreement was entered into

in Canada which secured the ongoing payment of current service pension contributions

until the pension wind-up date of September 30, 2010. The settlement also secured the

continuation of funding of medical, dental and life insurance to pensioners and long term

disability beneficiaries through to December 31, 2010. Although these concessions

cost the company and its creditors up to approximately $57 million, employees agreed to

waive their right to assert any priority claims, serving the interests of bondholders and

the U.S. unsecured creditor committee (UCC) by bringing much needed certainty to the

process. This in turn helped to facilitate the ongoing funding of Nortels CCAA estate by

the US estate.

The impact of the discontinuance of benefits to Nortel retirees and those relying on

company funded long-term disability has featured prominently in the press. There have

been public rallies, appeals to appellate courts, political lobbying, and proposed

legislative reform in the form of private member bills.

c) Proposed legislative reform

Proposed legislative changes have had some traction in the form of Bill C-501: An Act to

amend the Bankruptcy and Insolvency Act and other Acts (pension protection). This

private members bill progressed to second reading in the House of Commons.

Submissions were then heard from all stakeholders at the Federal governments

Standing Committee on Industry, Science and Technology in November 2010, at which

time the clause-by-clause consideration of the Bill was put over until to February, 2011.

The Bill proposes to grant federal pension plans super-priority status in the event a

company entered restructuring, bankruptcy, or liquidation proceedings.

While motivated by an important social agenda, concerns have been raised that such

changes could have a significant impact on the viability of the companies that sponsor

defined benefit pension plans and their ability to attract financing on favourable terms.

Affording unfunded pension liabilities a super-priority in insolvency proceedings sends

chills down the spines of lenders due to the sheer size and complexity around the

calculation of estimated pension shortfalls. There are many complex variables which will

impact upon the ultimate pension shortfall, including the value of underlying pension

assets which continually fluctuate with financial market performance; and the

quantification of liabilities which are driven by complex assumptions and calculations

relating to the life expectancy of plan members, estimated risk and returns factors etc.

At any point in time, likely exposure can only be suitably estimated with the assistance of

actuaries. Even in a plan wind-down, it can take years to determine the quantum of the

actual deficit in the pension plan.

Thus, it is incredibly difficult, if not impossible, for lenders to get any meaningful read on

pension liabilities which could rank ahead of them if super-priority were granted to

pension liabilities. Critics argue that the impact on lending could be disastrous,

particularly at a time when access to credit is so critical for corporate growth and

success.

That said, while the future status of Bill C-501 is uncertain, future iterations are likely to

emerge in Canada and other jurisdictions around the world. In fact, at the time of writing

this paper, this is a very live issue in the United Kingdom, where enforcement of

pension claims on a priority basis was considered by the U.K. High Court in December

2010 in the Nortel and Lehman Brothers cases.

d) U.K. Experience Status of post-filing FSD claims

One of the powers of the U.K. Pension Regulator is to issue a Financial Support

Direction (FSD) to any party which is connected or associated with the company

responsible for the pension scheme, if that company is itself unable to continue to

support the scheme. The U.K. Pensions Regulator can look to any company in a group

of companies whether in the UK or not, including parent companies, as well as directors

or controlling shareholders.

The U.K. Administrators of Nortel and Lehman, contending with pension deficits of 2.1B

and 125m respectively, argued that the FSD was inoperable in the insolvency

proceedings and that its impact would be crippling. However, the judge ruled that an

FSD could be imposed and that it would rank as an Administrative Expense of the

insolvency. This effectively allows the pension schemes to jump up in the priority ranking

ahead of all other creditors and even ahead of the Insolvency Administrators own

remuneration.

Experts contend that the U.K.s position as a centre for cross-border insolvencies and

restructurings has come under serious threat due to the High Court ruling in the

Nortel/Lehman case which dramatically strengthens the Pensions Regulators ability to

compel companies and subsidiaries to help cover pension fund deficits. The

Nortel/Lehman ruling is so wide in its implications that it could even discourage

insolvency practitioners from taking administrations in the U.K., and increase the cost of

borrowing and access to funding from banks. It has been said that it brings U.K.s rescue

culture under attack and is most certain to be appealed.

e) Alternatives to conventional wind-up of pension plans

Typically, pension plans are automatically wound up following a bankruptcy or failed

restructuring. All the money is ultimately converted into annuities, which pay a

guaranteed rate of return for the rest of their plan members lives. A limited top-up to a

maximum of $1,000 per month is provided in Ontario only by the Pension Benefit

Guarantee Fund (PBGF). Employees in other provinces currently do not have access

to a pension protection fund.

In the case of Nortel, this would mean that pensioners would crystallize a substantial

loss (recently estimated to be approximately 30%), equivalent to the estimated solvency

status of the plan. Further, concerns have been voiced about the ability of the Canadian

insurance annuity market to absorb such a large amount of pension funds. This could

result in deeper losses to pensioners, due to the lack of competitive forces governing the

insurance annuity markets.

A group of concerned Nortel pensioners, with input from legal, financial and actuarial

advisors, worked to develop a creative alternative to conventional wind-up of the pension

plan and the purchase of annuities. The proposal was to provide the plan members the

alternative of investing the value of their pension with private fund managers with a view

to maximizing returns over time. This would require legislative and regulatory changes.

After much discussion and analysis, a solution has been agreed upon with the Ontario

government which is intended to provide pensioners with flexibility but maintain

important checks and balances and impose stringent disclosure requirements to enable

pensioners to make informed choices.

If this initiative were to be adopted more broadly, employees in Ontario would now have

the choice of either opting for traditional pension plan wind-up, with limited top-up by the

PBGF, or electing to invest the value of their pension with private fund managers.

Access by private financial managers to longevity hedges to offset the risk of pensioners

living longer than expected is an important component of these alternate wind-up

models10.

While some proponents applaud the opportunity for choice now available to Nortel

pensioners, others are concerned that such flexibility will only serve to further undermine

retirement funds, as pensioners make choices to move pension funds from secure

annuities to more volatile investment vehicles.

E. CLOSING COMMENTS

There is clearly a lot going on in relation to employee claims in restructuring proceedings. An

aging population suggests that pension issues are sure to maintain prominence for some time.

Increasingly sophisticated and vocal employee groups will continue to insist on being heard.

Large global restructurings bring home the additional complexities introduced when employee-

related claims in other jurisdictions purport to directly impact Canadian proceedings. What is

clear from a practical perspective is that the human element involved in employee claims is an

important component that must be carefully managed in the complex web of any restructuring.

For more information, please feel free to contact:

Lily Harmer Paliare Roland Rosenberg Rothstein LLP 416-646-4326 lily.harmer@ paliareroland.com www.paliareroland.com

Allan Nackan Farber Financial Group 416-496-3732 [email protected] www.farberfinancial.com

10

While these are ground-breaking developments in Canada, there is precedent in Europe for pension schemes to

offload longevity risks (e.g. Deutsche Bank took over longevity risks of approximately 3 billion of pension liabilities

from BMWs UK pension scheme).

CHART I Employees vs. Bondholders Insolvency Impact

Employees Bondholders

Level of

sophistication

Relatively unsophisticated Sophisticated participants in capital

markets

Level of knowledge Unless part of senior management, have

very limited knowledge of: overall strategy,

financial status, insolvency impact.

Sophisticated investors who are in the

business of providing finance and

assessing financial risk. Access to

market data, analysts etc.

Access to expert

professional advice

Appointment of representative counsel for

employee groups has become prevalent.

With recent CCAA/BIA amendments, such

groups are able to get a court approved

Administrative Charge to secure fees of

financial, legal and other experts.

Union provide infrastructure and expertise

to speak for unionized employees.

Hire top-notch legal and financial

advisors, investment bankers,

analysts etc. Most often have formal

representation via UCC and

Bondholder Committees. These

groups have a powerful voice in

CCAA and Chapter 11 proceedings,

and their legal and financial experts

are most often funded directly from

the assets of the insolvent company.

Ability to hedge None available other than the limited

protection offered by:

Pension Benefit Guarantee Fund

(in Ontario only) for portion of

pension deficit

WEPPA for unpaid wages and

other compensation (only in a

receivership or bankruptcy)

Can effectively hedge by purchasing

credit default swaps which will offset

losses suffered in insolvency

proceedings or result in possible

recovery even greater than their initial

investments.

Ability to exit Current employees may be living

paycheque-to- paycheque, cant just leave.

Many remain loyal to the company until the

bitter end.

Ability to trade their position by selling

bonds before and after the filing date.

Special

considerations

Retirees and employees on long-term

disability are particularly vulnerable and are

dependent on pension promises and

continuation of health and welfare benefits,

which may not be adequately funded.

Documents

Practical Strategies for Dealing With Employee Claims in Restructuring Proceedings_by Allan Nackan & Lily Harmer_Jan 27 2011