Risky business: what is the scope of your indemnity?

As well, a dispute over the meaning of an agreement signed in 1985 between the province and two companies to end litigation stemming from the mercury poisoning and also to keep pulp and paper operations going at the Dryden plant is to be heard later this month by the Supreme Court of Canada.

The issues to be resolved by the court in Resolute FP Canada Inc. et al v. Ontario could have implications in commercial contracts far beyond that of the scope of the 1985 indemnity. It is also another reminder about the importance of precision in contract drafting. “You have to be cautious to avoid boiler plate language,” says Natalie Mullins, a partner at Gowling WLG in Toronto. “You have to address every issue very specifically,” adds Mullins, whose practice focuses on environmental-based litigation.

A central aspect of the upcoming case before the Supreme Court is whether the indemnity clause agreed to by Ontario in the 1985 agreement applied only to third-party claims against two companies or to so-called “direct” claims stemming from the costs of subsequent environmental orders by the province. Also, if an indemnity is in effect for a corporate property owner, the Supreme Court is being asked to clarify what happens to this protection if there is a transfer of control and a provincial government invokes its environmental powers against any entity that was ever attached to the land.

Adding to the somewhat complicated factual history in this dispute is that judges at every level in the litigation have disagreed on the application of the contractual interpretation template set out by the Supreme Court less than five years ago in Sattva Capital Corp. v. Creston Moly Corp.

In some ways, the issues in the case invoke basic principles of contract law. “It goes back to the debate over contractual interpretation — textual or contextual,” notes Paul Davis, a lawyer at Paliare Roland Rosenberg Rothstein LLP in Toronto. “Our Supreme Court has been moving away from a textual interpretation,” says Davis, who is the co-author of a paper in the Canadian Business Law Journal about the issues raised in Resolute as a result of the decision of the Ontario Court of Appeal.

The indemnity in 1985 was part of an agreement between the Ontario government and Reed Ltd. and Great Lakes Forest Products Limited. A predecessor company of Reed was responsible in the 1960s for the release of untreated mercury waste into the local river systems. Great Lakes agreed to purchase the Dryden plant in 1979 after the province, which did not want the pulp and paper operations to close, agreed to limit the potential liability from litigation. The deal also required Great Lakes to spend a significant amount of money to upgrade and modernize the plant.

A settlement with the First Nations bands impacted by the pollution was not reached until 1985. As part of a broad agreement with all parties, including First Nations, the federal government and the two companies, the province agreed to an indemnity provision for both Reed and Great Lakes.

The main clause of this provision stated that Ontario would indemnify the companies from “any obligation” as a result of “any claim, action or proceeding, whether statutory or otherwise” that existed in 1979 when the transaction for the pulp and paper operations went through. The scope of the indemnity extended to claims by individuals, companies, the federal government and “any province” as a result of environmental damage caused previously.

Ownership of the pulp and paper operations and control over the waste disposal site had transferred hands a number of times when, in 2011, the Ontario government issued environmental orders to deal with soil erosion and ongoing water testing.

Weyerhaeuser and predecessor companies to Resolute FP Canada Inc. were named in the order and required to compensate the province more than $270,000 to cover the cost of the remediation. The companies were also informed that they were not relieved from being responsible for any future orders related to site, which, in 2011, had an estimated lifespan of another 35 years.

Weyerhaeuser was named in the order as a result of it owning the property for two years, from 1998 to 2000. Through a number of corporate consolidations over the years, Resolute could be linked back to Great Lakes, one of the two companies that signed the agreement with Ontario in 1985.

The companies named in the order were not responsible for the mercury poisoning, but the powers of the province are quite broad under the Environmental Protection Act, explains Mullins. “To address contamination, the ministry can reach back in time. You just have to have some association with the land and you continue to be exposed even after you sell it,” she says.

Weyerhaeuser initiated an action against the province in 2013 and Resolute was added as a party to the litigation. Superior Court Justice Glenn Hainey ruled that the indemnity was not restricted to third-party claims, as Ontario argued.

“The province wanted to protect Dryden’s economy and encouraged Great Lakes to continue the pulp and paper operation in Dryden and to invest a great deal of money in upgrading the operation. It was well known that the disposal site posed a serious environmental liability,” the judge wrote. “Under the circumstances, it would be commercially absurd to conclude that the parties contemplated that the province could at any time withdraw its commitment to protect Great Lakes and its successors from environmental liability arising from the disposal site,” he added.

The province appealed that decision and, in a 2-1 ruling, the Court of Appeal upheld the finding that the indemnity applied to direct claims. However, the majority also ruled that the predecessor company to Resolute had assigned its benefit to Weyerhaeuser in1998. It also concluded that the motions judge should determine if Weyerhaeuser transferred its benefit when it sold the Dryden mill and other assets in 2007 to another company.

On the first issue of whether the 1985 indemnity was restricted to third-party claims, all three judges referred to the Supreme Court’s decision in Sattva and the instruction to consider the “factual matrix” when deciding the intent of the parties in a contract.

Justice David Brown, with Justice Peter Lauwers concurring, also highlighted this section of the Supreme Court ruling. “While the surrounding circumstances will be considered in interpreting the terms of a contract, they must never be allowed to overwhelm the words of that agreement,” noted Brown.

“I see no legal error in the motion judge’s statement that the interpretation of a contract should start with the language of the contract. That is the logical place to start, especially since the jurisprudence requires the interpreter of a contract to determine the parties’ intention in accordance with the language they use,” wrote Brown.

The majority found that Hainey did not commit a “palpable and overriding error” in his interpretation of the contract and that, depending on the language used, an indemnity can cover direct claims.

Justice John Laskin issued a dissenting judgment and suggested that Hainey’s analysis was in error.

“The motion judge’s starting point for interpreting the 1985 indemnity was to look at the words of the document in isolation, and then only secondarily at the ‘surrounding circumstances.’ His two-stage approach to the interpretation of the 1985 indemnity is not the proper approach. Context controls meaning,” wrote Laskin, who ruled in favour of Ontario on whether the indemnity applied to direct claims.

Ontario and the two companies all sought leave to appeal different aspects of the Ontario Court of Appeal decision. Leave was granted last fall.

Douglas Sarro, a lawyer and co-author with Davis of the paper on the case and its legal issues, says he believes Laskin’s judgment is more in line with the way the Supreme Court has suggested to go about interpreting these kinds of agreements. “I think the Supreme Court is going to have to remind the courts below about the approach it set out in Sattva,” says Sarro, senior advisor, research and regulatory innovation at the Ontario Securities Commission (his comments are not on behalf of the OSC).

“Given the structure of this indemnity, it makes more sense to me as one that covered third-party claims,” Sarro says, in part because of other aspects of the agreement that was signed in 1985 by the provincial and federal governments, the companies and First Nations.

There is not a lot of Canadian case law on the scope of indemnities in circumstances such as the Weyerhaeuser/Resolute case. In their law paper, the lawyers also argue that the majority did not follow the approach of other jurisdictions, both in the United States and some Commonwealth countries, in determining whether the indemnity covered third-party claims. Broad language on its own is not enough to expand the scope of an indemnity without considering the context, they write.

Not surprisingly, the Ontario government is in agreement with the analysis conducted by Laskin in his dissent on whether the indemnity applied to direct claims. “Further, the Court of Appeal ought to have corrected the motion judge’s conclusion that the 1985 indemnity was a business agreement. The settlement was not commercial in nature. It reflected a policy objective to address concerns arising from the mercury contamination,” state Ontario lawyers Leonard Marsello, Tamara Barclay and Nansy Ghobrial in written submissions filed with the Supreme Court.

Agreements with government are different than contracts solely between private-sector entities, they argue, because of the public interest requirements. “Absent express language, courts should not imply an obligation to compensate for breach of contract resulting from future legislation,” they write.

Resolute, in its written submissions, suggests the issues before the court are not actually complex. “In 1979 and again in 1985, the province of Ontario gave indemnities to Great Lakes Forest Products Limited. It gave those indemnities to persuade Great Lakes to buy and invest $200 million in a pulp and paper mill, to settle environmental litigation with First Nations bands and to save the economy of Dryden, a single industry town. . . . [B]ut in 2011, when environmental liabilities arose from the buried mercury, Ontario sought to renege from its bargain,” write Andrew Bernstein, Jeremy Opolsky and Jonathan Silver at Torys LLP.

In his dissent, Laskin did not address whether the companies involved in the litigation still enjoyed the benefit of the indemnity, because he found it only ever applied to third-party claims.

The finding by the majority that the benefit had extinguished over time through the various commercial transactions is criticized by both companies in their written submissions before the Supreme Court, on the basis of failing to apply the standard principles of contractual interpretation. “Those principles required the court to consider the wording of the enurement provision in the context of the indemnity as a whole, the factual matrix, and the principle that commercially unreasonable results should be avoided,” write Weyerhaeuser’s lawyers Christopher Bredt, Markus Kremer and Alannah Fotheringham at Borden Ladner Gervais LLP.

The finding by the majority in the Court of Appeal ruling that more evidence is required to determine if Weyerhaeuser “lost” the benefit of the indemnity in the 2007 sale of the Dryden plant leads to a “commercially absurd result,” they argue. “It would be very difficult for an indemnitee to sell a contaminated property if a purchaser knows that it will be exposed to liability upon becoming the property’s owner. By the same token, few owners would be willing to sell a contaminated property if they know that, by doing so, they will lose the benefit of the indemnity,” they state.

If you are indemnified only while you hold title to the property and theindemnity, but once you sell and assign it you are opened up to an order “doesn’t seem to be a reasonable commercial outcome,” says Mullins. “The ministry would be potentially getting a windfall.” When draftingindemnityagreements, it is important to make clear what you are protected from and who is protected, Mullins adds.

Depending on how the Supreme Court rules in this case, it may be necessary for legal departments to revisit past agreements to determine the scope of an indemnity, says Michael Barbero, a lawyer at McLennan Ross LLP in Calgary, whose practice focuses on environmental law and regulatory compliance.

“Identify whether the agreement has a robust definition of claim, such that you can ascertain whether direct claims, third-party claims or both are captured by the agreement. Then identify whether the commercial context is relevant and worth arguing,” says Barbero.

Davis agrees that reviewing past indemnity agreements may be worthwhile. “You may have to go back and look and see what other sections of the contract say,” he adds. In future agreements, “if the intention is to limit it to third-party claims, use that express language,” Davis says.