D. Executory Contracts

Author:Roderick J. Wood
Profession:Faculty of Law. University of Alberta

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Executory contracts, as the term is used in an insolvency context, are contracts where neither party has fully performed and where the contractual obligations are linked so that performance by one party is not required unless the other party is willing and able to perform.71

Contracts that have been fully performed by the debtor or by the counterparty are not covered by this discussion, since they are largely unproblematic. If the debtor has performed its part of the bargain, the debtor is entitled to call for performance from the other party and may resort to its contractual remedies in the event that the counterparty fails to perform. If the counterparty has fully performed and the debtor has obtained the benefits of this performance, the counterparty has a claim against the debtor that has the status of an unsecured claim in the plan along with all the other pre-filing unsecured creditors.

Three issues arise in relation to executory contracts. The first concerns contracts that the debtor wishes to perform in order to obtain the performance of the counterparty. Problems arise if the counterparty has a right to terminate the agreement. Restructuring law prevents the counterparty from exercising its right to terminate the contract in certain instances. The second concerns contracts that the debtor does not wish to perform. Restructuring law permits the debtor to disclaim contracts and specifies the consequences of doing so. The third concerns contracts that the debtor wishes to assign to third parties. Restructuring law permits a debtor to assign a contract even if the contract contains an anti-assignment clause that prohibits such action.

Originally, the CCAA was largely silent on the treatment of execu-tory contracts. Provisions governing executory contracts were added to the BIA restructuring provisions in 1992. The 2005/2007 amendments have expanded the executory contract provisions in the BIA and have introduced a similar set of statutory provisions into the CCAA. The BIA provisions respecting disclaimer of contracts and assignment of contracts apply to individuals who make commercial proposals, but only to the extent that the contract pertains to their business activity.72The rules respecting disclaimer and assignment of contracts under both the CCAA and BIA do not apply to eligible financial contracts or to collective agreements.73

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1) Termination of Contracts

No difficulty arises if the debtor has not breached the agreement with the counterparty. There is no need to affirm the contract, as is the case in bankruptcy. The commencement of restructuring proceedings does not change the relationship between the parties. The contract can be kept in good standing simply by performance of the debtor’s contractual obligations. Problems are more likely to arise where the debtor is in breach of the contract but nevertheless wishes to obtain its future benefits.

The BIA and the CCAA initially adopted two fundamentally different approaches to this problem. Under the CCAA, the stay of proceedings granted by the court was used to prevent counterparties from terminating their agreements with the debtor. The initial and subsequent orders typically contained a provision that prevented the counterparty from terminating or ceasing to perform any contract with the debtor. The BIA did not use the stay of proceedings to prevent termination of contracts by counterparties. Instead, the matter was expressly dealt with by a statutory provision that limited a counterparty’s ability to terminate a contract or exercise other contractual remedies for breach.

Contracts entered into by the debtor prior to the commencement of restructuring proceedings would sometimes contain contractual provisions that gave the counterparty the right to terminate the contract if the debtor were insolvent or subject to insolvency proceedings. These kinds of terms are referred to as ipso facto clauses in the United States. The BIA expressly limited the effectiveness of such clauses by preventing a person from terminating or amending an agreement or calling for accelerated payment or forfeiture of the term under an agreement by reason only that the debtor is insolvent or has commenced restructuring proceedings.74A similar provision was added to the CCAA by the 2005/2007 amendments.75

This statutory provision does not prevent the counterparty from terminating the agreement for other grounds. Consider the example of a debtor who has entered into a long-term supply contract but has failed to pay for several deliveries prior to the commencement of restructuring proceedings. Although the supplier would be unable to terminate the agreement because of the insolvency of the debtor or the commencement of insolvency proceedings, the supplier is not prevented from terminating future performance to the extent that this right is available to the supplier under ordinary contract or sales law principles. Unless

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a right to cure is provided by the contract or other applicable law, the debtor is not able to put the contract back into good standing by curing the default.

Both the BIA and the CCAA contain additional statutory provisions that prevent a counterparty from invoking a contractual right to terminate a contract. A lessor is not permitted to terminate a lease by reason that the debtor has not paid rent in respect of periods prior to the commencement of restructuring proceedings.76Although the BIA provides a similar rule for a failure to pay royalties under a licensing agreement,77the CCAA does not contain an equivalent provision. Public utilities are also prevented from discontinuing service by reason of a failure to pay for services rendered before the commencement of restructuring proceedings.78The debtor is required to pay only amounts that become due after the commencement of the restructuring proceedings in order to keep the contract in good standing. These statutory provisions override any contractual provision to the contrary.79The counterparty or a public utility may apply to court and obtain a complete or partial exemption from the operation of this rule if it can show that it would otherwise suffer significant financial hardship.80

The addition of these provisions into the CCAA raises an important question concerning the relationship between the stay of proceedings and the new provisions governing contractual agreements. In the past, the...

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