Canadian insolvency priorities materially enhanced for suppliers of perishable fruits and vegetables

Unsecured creditors in Canadian insolvency proceeding, as a general principle, receive pari passu treatment, sharing pro rata in recoveries from the insolvent party’s assets after secured creditors have recovered from their collateral. 

That general principle is subject to a number of historically available statutory exceptions. Not only do those exceptions elevate certain enumerated claims ahead of other unsecured creditors, but also ahead of secured creditors. Typical examples of such statutory exceptions are: unpaid employee source deductions, unpaid wages subject to statutory dollar limits and more recently amounts required to liquidate unfunded pension liabilities or solvency deficiencies.

Another statutory exemption was recently added in Canadian insolvency proceedings, akin to the long-standing Perishable Agricultural Commodities Act (PACA) that applies in US chapter 11 cases. Customers and suppliers who deal in perishable fruits and vegetables, as well as their lenders, must now consider a new statutory amendment that elevates another otherwise unsecured claim into a priority position. 

Effective in December 2024, Canada’s Bankruptcy and Insolvency Act and Companies’ Creditors Arrangement Act have been amended to provide statutory priority in an insolvency, restructuring or receivership proceeding to an unpaid seller of perishable fruits or vegetables to a debtor who uses those fruits and vegetables in relation to its business. The unpaid fruits and vegetables and any proceeds thereof (whether segregated or commingled) are deemed held in trust for the unpaid seller if:

1. the supplier has included in their invoice a notice, or has otherwise given notice within 30 days of the receipt by the purchaser of the perishable fruits or vegetables, in the prescribed form and manner, informing the purchaser of their intention to avail themselves of their right as beneficial owner of the perishable fruits or vegetables and the proceeds of sale in case the purchaser becomes bankrupt or subject to a receivership;
2. the purchaser has 30 days or less to pay the entire balance owing to the supplier; and
3. the supplier is not paid the entire balance owing when it becomes due as provided in the invoice.

Under this new priority provision, ‘perishable fruits and vegetables’ even extend to items that have been repackaged or transformed by the purchaser to the extent the nature of the fruits or vegetables remains unchanged.

Beyond this general priority protection for suppliers of fruits and vegetables, courts are empowered to make any order that they consider proper in the circumstances upon application of a supplier who believes they have been aggrieved by any act, omission or decision of the purchaser, or the purchaser’s trustee or receiver. The types of acts, omissions or decisions targeted by this provision, and why and how they would need to be remedied by the court, are unclear at this time.

These new statutory amendments raise interesting questions about the specific importance of protecting suppliers of these types of goods over other suppliers of perishable goods that may not be fruits or vegetables, or suppliers of services that may not be subject to resale. Other statutory priority rights recognize the unique circumstances of wage earners, pension beneficiaries, and tax authorities. The differentiating circumstances for suppliers of perishable fruits and vegetables relative to those other similar suppliers is less clear.

Various participants in the agricultural and food processing markets must be aware of and account for these provisions. This includes foreign participants dealing with Canadian purchasers.

Suppliers of perishable fruits and vegetables

These amendments are clearly a welcome change to suppliers. 

To access the new protections, suppliers will need to comply with the specific procedures established in the legislation.

• Invoices should include the prescribed notice informing the purchaser of the unpaid supplier’s intention to avail itself of these new rights as beneficial owner of the fruits and vegetables or proceeds.
• Invoice terms should provide for payment within 30 days.
• Fruits and vegetables supplied should be identifiable to ensure they, or their proceeds, can be subject of a trust claim in practice.

Significant suppliers may need to engage in negotiations with the purchaser’s lenders on the application of or waiver of these priority rights, notwithstanding the terms of the legislation.

Secured lenders

Secured lenders who rely upon perishable fruit and vegetable collateral to support any portion of their loans will need to carefully consider steps to ensure they adequately account for the risk that they may not have a priority claim to fruit and vegetable inventory that is unpaid. 

Those steps may include additional reserves for the value of such unpaid inventory, reporting from borrowers and covenant thresholds on unpaid inventory amounts that could lead to priority claims, and waivers of these priority rights from suppliers in situations where a loan ceases to be viable without clear unimpeded access to this collateral or its proceeds.

These considerations will be most important for the loan management procedures of lenders with existing secured loans that could be materially affected by these new provisions. Those loans would have been entered into at a time in the past when the parties may not have specifically contemplated these new provisions and priorities. 

Purchasers

Purchasers of perishable fruits and vegetables who rely upon working capital financing that is dependent upon this inventory collateral may face some of the same challenges as secured lenders, though from the opposite perspective. Lenders’ enhanced collateral reporting and compliance procedures may impose additional cost and reporting time on purchasers. Any decisions to impose increased loan reserves to account for the risks of these priority claims would reduce access to working capital funding for these purchasers.

Practical application in insolvency

A number of practical questions remain to be worked out in the application of these priority rights in insolvency.

First, how would this statutory trust claim apply relative to priority “DIP” financing in an insolvency proceeding? If the charge securing such DIP financing can rank ahead of the supplier’s statutory trust claim, the value of that statutory trust claim is reduced. The answer to this question will likely depend in part upon the ability to finance the restructuring without access to this collateral for “DIP” financing purposes.

Second, the trust claim in most cases will be limited to proceeds of sale of the goods. Immediate recovery and realization on the perishable goods themselves on any significant scale is likely not practically feasible. Therefore, a mechanism to safeguard and access those proceeds would be needed.

Third, suppliers must also be aware of the limitations of the scope of their priority rights. In many cases, the fruits and vegetables supplied will be processed during an insolvency proceeding, while an insolvency stay of proceedings is operative, such that the nature of the fruits and vegetables is changed. In those cases, any priority rights over the processed inventory is eliminated.

Fourth, revolving loans often implement blocked account or account control arrangements that automatically sweep cash receipts to pay down the facility and create room for further borrowing. Suppose proceeds of perishable fruits and vegetables are received subject to the deemed trust provided for in the legislative amendments, and those proceeds are automatically applied through blocked account or account control arrangements directly to pay down a revolving loan facility. In that case, will the unpaid supplier of those fruits and vegetables, as trust beneficiary, have a trust claim against the revolving lender for return of the swept funds, and will the revolving lender then be required to reverse those repayments even if doing so places the lender in an over-advance position.

We expect these issues will be considered by courts in the future and until such time a conservative approach to each of these issues by lenders, suppliers and purchasers is warranted. Parties may wish to consider the cases and solutions devised in US Chapter 11 cases under PACA as Canada’s new law takes effect.