Constructive Trust Claim Dismissed As Court Backs Reverse Vesting Order

On February 20, 2025, the Alberta Court of Appeal released its decision in Henenghaixin Corp v. Long Run Exploration Ltd, dismissing an application for leave to appeal a decision rendered in the Companies’ Creditors Arrangement Act (CCAA) proceedings of Long Run Exploration Ltd (Long Run), which approved a stalking horse bid to be implemented through a reverse vesting order (RVO). As RVOs gain in popularity, and are faced with new creative opposition, it is important to understand how, why, where and when courts will employ this powerful tool.

As is typical in RVO transactions, the RVO provided that prior to acquisition of Long Run’s equity by the purchaser, all of Long Run’s liabilities not explicitly retained would be ‘left behind’ by transferring them to a creditor trust. Henenghaixin Corp (HCorp) sought to have the transaction amended to have its claim designated as a retained liability to allow for its preservation and future adjudication.

HCorp’s claim arose out of a lawsuit commenced by HCorp years prior to Long Run’s CCAA proceedings, which was ongoing until it was stayed by the CCAA proceedings. HCorp alleged that certain individuals induced an improper transfer of HCorp’s funds to Long Run by fraud or misrepresentation, and HCorp claimed a proprietary constructive trust over Long Run’s assets to the extent of C$44-million.

CCAA Decision

In the decision of the Court of King’s Bench of Alberta, Justice Mah (the CCAA Justice) noted that HCorp’s objection was not to the transaction or RVO in principle, but rather to the categorization of its claim as a transferred liability, which ultimately meant that HCorp would not receive any recovery. HCorp requested that the transaction be amended to designate its claim as a retained liability.

The CCAA Justice questioned whether it was legally possible for him to amend the transaction as HCorp suggested. He ultimately left that question unanswered but held that he should not do so. He noted that the purchaser was not willing to enter a transaction other than the one presented to the court, which was “a reasonable position to take.”

Notably, in considering HCorp’s objection, the CCAA Justice held that it was necessary to assess the strength of HCorp’s claim because “the mere assertion of a constructive trust claim should not be enough to derail or frustrate CCAA proceedings.”

The CCAA Justice concluded that HCorp had to establish its claim on a balance of probabilities rather than the lower standard of a prima facie case suggested by HCorp, and he concluded that HCorp did not meet this standard.

Leave to Appeal Decision

The primary issue raised by HCorp in its application for leave to appeal was the correct standard for a court to apply in assessing the strength of its claim. HCorp argued that the appropriate standard of proof to be met by a creditor with a contingent priority claim when approval of a transaction is sought in a CCAA proceeding was a novel issue.

There is surprisingly scant case law on the appropriate threshold to apply in assessing a contingent claim in this context. However, the balance of probabilities threshold was approved by the Supreme Court of Canada in Montreal (City) v. Deloitte Restructuring Inc in the context of assessing whether a claim relates to a debt resulting from obtaining property or services by false pretenses or fraudulent misrepresentation for the purposes of section 19(2) of the CCAA (which effectively provides such claimants with a veto when voting on a compromise or arrangement). Additionally, the Montreal (City) ruling was applied by Chief Justice Morawetz of the Ontario Superior Court of Justice in Laurentian University of Sudbury in the context of assessing whether a historical claim for sexual abuse should be adjudicated outside of the claims process that had been established in the CCAA proceedings.

In dismissing the application for leave to appeal, Justice Strekaf was satisfied that the above existing law was applied, there was no legal error and no point of law was raised that is of significance to the practice.

Key Takeaways

The decision makes it clear that a contingent creditor seeking to be treated differently in a CCAA proceeding will (at minimum) be required to establish its claim on a balance of probabilities, and the court will engage in this type of summary assessment of a claim when necessary. The integrity of the CCAA regime would be compromised if a claimant, asserting a constructive trust or other proprietary interest but unable to establish its claim on a balance of probabilities, could prevent a transaction and stop a CCAA proceeding in its tracks.

This decision also serves as an example of an RVO being granted in the face of creative opposition. In applying the Harte Gold test for RVOs, the CCAA Justice specifically found that no stakeholder was worse off under the RVO structure as the prospect of zero recovery for some creditors was a function of the debtor’s insolvency, not the RVO. The RVO was necessary in this case due to the highly regulated environment in which Long Run operated.

The Blakes team acted for the Agent of Long Run’s senior secured lenders and successfully opposed the application for leave to appeal. 

For more information, please contact the authors or any other member of our Restructuring & Insolvency group.