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A Qualified Opinion // Milly Chow

Toronto-based attorney Milly Chow discusses the environment for restructuring transactions.

A Qualified Opinion // Milly Chow

Attorney Milly Chow, based in Toronto, specializes in complex and multijurisdictional financial restructurings, distressed mergers and acquisitions and debtor-in-possession financing for restructuring matters across North America and internationally. She is also the 2017 global president of the Turnaround Management Association.

How will an increase in interest rates impact distressed investment opportunities?
General consensus calls for interest rates to continue to rise gradually, by as much as 75 basis points by the end of 2017, considering the anticipated tax cuts, increased spending and deregulation expected under the new Trump administration. Sectors that depend upon discretionary consumer spending, such as retail and automotive, are likely to be most significantly affected, resulting in continued or new distressed investment opportunities. A meaningful rate hike will increase debt service obligations of businesses, which will give rise to or exacerbate liquidity constraints for already-distressed or over-leveraged businesses. That will make it more difficult and expensive for businesses with maturing debt obligations to refinance, and is likely to reduce investor confidence in the high-yield bond market, making it more difficult or expensive for highly leveraged businesses to refinance in the high yield bond market. The low interest rate environment has enabled troubled companies to obscure underlying issues in their businesses with low interest financing and low loan default rates have masked the real level of distress. When interest rates increase, the real level of distress will be revealed. It is estimated that approximately $1.5 trillion of debt will

“Although the price of oil is trending up, distressed opportunities are expected to continue for at least the next year…”

What sectors are most likely to see the greatest distressed investment opportunities in 2017?
Last year was a banner year for mergers and acquisitions in the oil and gas sector. Although the price of oil is trending up, distressed opportunities are expected to continue for at least the next year, particularly in oil field services as decreased capital spending will continue to significantly impact service providers and squeeze margins. In addition, as exploration-and-production oil companies continue to look for ways to conserve cash in a sustained environment of low oil prices, it is expected that these companies will continue to seek to offload their non-core assets to provide much needed liquity. Slashed workforces and capital budgets will continue to give rise to commercial real estate opportunities where recordlevel vacancy rates in oil industry hubs, like Houston and Calgary, have resulted in millions of square feet of prime real estate office space in those areas sitting vacant and landlords being further squeezed by rate reduction requests in an environment of surplus supply and low demand.

In Canada, the impact of the Trump administration’s trade policies may put increased pressure on the Canadian oil and gas sector as it tries to regain footing. Retail is also expected to continue to experience significant pressure. As the industry continues to struggle to adapt to dramatic shifts in consumer spending patterns, the rise of online shopping and competitive forces, the retail industry will now also face an environment of rising interest rate hikes that threaten to dampen consumer discretionary spending. While consumer confidence soared after the U.S. election, 2016 holiday spending did not match pace. As the retail landscape continues to experience significant pressure and more traditional brick-and-mortar stores are being shuttered, lower inventory volumes, competition and tighter margins will likely give rise to increased distressed opportunities in the transportation and logistics sector.

“A meaningful rate hike will increase debt service obligations of businesses, which will give rise to or exacerbate liquidity constraints for already-distressed businesses.”

What are important cross-border considerations for investors seeking distressed investment opportunities in Canada?
Generally, the laws governing insolvency proceedings in Canada are similar to those in the United States. However, there are important legal differences and considerations for investors to consider that can impact distressed investment opportunities and how they are implemented. On the positive side, sale of distressed businesses in Canadian insolvency proceedings are similar to Section 363 sales under Chapter 11 of the U.S. Bankruptcy Code, and are typically quicker and less expensive to implement. As well, the unique corporate plan of arrangement mechanism under the Canada Business Corporations Act (known as a CBCA plan of arrangement) provides a relatively quick and non-insolvency mechanism to effect an investment in, or acquisition of, a distressed business in Canada. The CBCA plan of arrangement mechanisum saw increased use in the oil and gas industry last year. Lastly, the Canadian exchange rate is a major incentive for U.S. and other foreign investors seeking distressed investment opportunities in Canada, offering an approximate 25 percent gain in buying power. On the other hand, investors looking for distressed investment opportunities in Canada should note that “cram down” (the mechanism available under the U.S. Bankruptcy Code that permits a reorganization plan to proceed over the objections of an impaired creditor class) is not available in Canada. In Canada, similar plans must be approved by each class of impaired creditors. In addition, where a unionized distressed company in Canada seeks to restructure, it will not be able to reject its collective bargaining agreement.