Credit curtailment, consolidation among impacts of SCC’s Redwater decision for oil and gas: lawyers

A 2019 Supreme Court of Canada case involving a bankrupt Albertan oil and gas company and subsequent cases building on its findings are hampering credit availability and spurring consolidation in the energy sector, according to two insolvency and restructuring lawyers.

Orphan Well Association v. Grant Thornton Ltd., 2019 SCC 5, which the SCC released on January 31, 2019, dealt with the interplay between provincial laws requiring oil and gas companies to dismantle production sites and restore affected land (known as abandonment and reclamation) and the federal jurisdiction under the Bankruptcy and Insolvency Act (BIA).

Redwater owned over a hundred wells, pipelines, and facilities and went bankrupt in 2015. Its trustee sought to sell its properties in accordance with the BIA. The Alberta Energy Regulator and the Orphan Well Association, whose mandate is to decommission orphan oil and gas infrastructure, took the position that Redwater’s trustee and receiver were not permitted to sell the properties because doing so would allow Redwater to skirt its provincial regulatory obligations to pay for the clean-up of its oil production sites.

The Court of Queen’s Bench (as it then was) and the Court of Appeal agreed that federal paramountcy supported the sale of the properties to pay creditors under the federal BIA. In a 5-2 decision, the SCC’s majority disagreed, finding that the Alberta Energy Regulator’s assertion of statutory enforcement powers did not conflict with the BIA.

Ultimately, Redwater’s trustee and receiver could not sell its oil and gas production properties. As a result of the ruling, insolvent oil and gas companies must first pay the abandonment and reclamation costs before selling their assets to pay creditors.

For oil and gas producers, Redwater’s short-term implications have been the “immediate and dramatic curtailment in the availability of credit” and a “material increase in the number of insolvencies,” says Adam Maerov, a partner in the restructuring and insolvency group at McMillan LLP. The Orphan Well Association is driving those insolvencies, he says, because secured creditors are not willing to invest in the restructuring or liquidation proceedings, as the distribution of the proceeds from the asset liquidation go almost exclusively to the orphan wells fund.

According to Kelly Bourassa, the effect of Redwater has been chiefly seen in Alberta and has not significantly changed the insolvency practice. It has clarified that any abandonment and reclamation obligations must be assumed, and provincially licensed producers cannot turn wells over to the Orphan Well Association when they are selling other wells to third parties, she says.

“It's simply ensured that the abandonment obligations are considered as part of the overall value of an insolvent debtor’s assets.”

Bourassa is the head of the restructuring and insolvency group in Calgary at Blake Cassels & Graydon LLP and was lead counsel for ATB Financial, a senior lender in the Redwater case. Following the decision, she says there has been “a closer eye put on lending into this industry, particularly at the junior producer level.”

Bourassa adds that in the wake of Redwater and subsequent cases that have sought to widen its scope, there has been a lot of consolidation in the industry. “Because it's become an area where you need to be larger in order to operate effectively.”

Maerov says caselaw following the Redwater decision has suggested that the “regulator’s priority” could be extended to other contexts, such as equipment and motor vehicles not necessarily used in the regulated business.

“While those initial efforts by parties to expand the scope of the Redwater principles have been pared back to some degree, it's raised some uncertainty about other contexts in which parties will try to extend the principle, and that's introduced a significant element of uncertainty in the secured lending market to companies with that are subject to regulation, and particularly environmental regulation,” he says.

In Travelers Capital Corp. v. Mantle Materials Group, Ltd., et al., the SCC denied leave to appeal in a matter involving an insolvent gravel pits operator, Mantle Materials Group. The case dealt with whether the priority of the abandonment obligations extended outside of the oil-and-gas context and allowed equipment financed by a third party to form part of the assets a regulator can access, on first priority, for environmental obligations.

Bourassa acted for an intervenor at the Alberta Court of Appeal in Qualex-Landmark Towers Inc v. 12-10 Capital Corp, 2024 ABCA 115. In this real estate dispute, contamination from a property owned by Capital Corp had migrated into the adjacent property owned by Qualex-Landmark Towers. Capital intended to sell the property. Qualex sought an order requiring it to complete the environmental remediation that Alberta Environment and Parks had directed it to execute to address the contamination. Qualex also asked the court to find that these environmental obligations took priority over Capital Corp’s other financial obligations. The Alberta Court of King’s Bench granted the orders.

“There you had, not a regulator, but, rather, a private citizen trying to take advantage of the scope of what is often called the ‘Redwater priority,’” says Bourassa.

But the Alberta Court of Appeal said that was “a bridge too far,” she says. The court limited the priority by clarifying that it is a public remedy, not a private one.

“That line of decisions continues to be a live issue,” says Maerov. “And the scope of or the question of where to draw the line continues to be a live question, at least in Alberta.”

“The impact of that is to create uncertainty for lenders who run the risk that they've loaned funds against the value of equipment, machinery, vehicles that might be used in a regulated activity, and by virtue of that use, might not be available to repay the lenders’ indebtedness.”