Peace River v Petrowest: Lessons Learned for the Construction & Infrastructure Industry

In Peace River Hydro Partners v. Petrowest Corp., (“Peace River”), the Supreme Court of Canada rendered a decision that provides guidance in addressing the operation of arbitration agreements in the context of insolvency proceedings – a topic of interest in the broader economic context of rising insolvencies. Here, we consider the implications of this decision in the construction context.

Background

Peace River was a partnership of several construction companies that was formed to build the Site C hydroelectric dam and generating station in British Columbia. Peace River subcontracted some of its scope of to work to Petrowest, an Alberta construction company (who was also a constituent member of Peace River), and certain of Petrowest’s affiliates. As part of this arrangement, Peace River and the Petrowest companies executed several clauses confirming that any disputes between the parties would be referred to arbitration (the “Arbitration Agreements”).

Partway through the project, Petrowest began to suffer financial difficulties, as a result of which the Alberta Court of Queen’s Bench (as it then was) granted an order under the Bankruptcy and Insolvency Act (the “BIA”) appointing a receiver to manage the assets of the Petrowest companies. The terms of receivership order empowered the Receiver to, among things:

• disclaim, abandon or renounce the debtors’ (i.e. the Petrowest companies’) interest in property;
• initiate the prosecution of “any and all proceedings” with respect to the debtors and their property;
• assign the debtors into bankruptcy, become their trustee in bankruptcy, and take all steps reasonably required to carry out its role as trustee in bankruptcy;
• “cease to perform any contracts of the Debtors”; and
• “receive and collect all monies and accounts” owing to the debtors.

The Receiver brought a civil action against Peace River for funds that Peace River allegedly owed to the Petrowest companies. In response, Peace River applied under s. 15 of British Columbia’s Arbitration Act for a stay of proceedings on the basis of the Arbitration Agreements.

Decisions of the Courts Below

In reviewing Peace River’s application, the chambers judge was faced with two key issues: (1) whether s.15 of the Arbitration Act was engaged; and (2) if so, whether the court nevertheless had the jurisdiction to decline a stay based on section 15(2) of the Arbitration Act. With respect to the latter issue, one of the bases under section 15(2) for refusing a stay would be if the Arbitration Agreements were “void, inoperative or incapable of being performed”.

In respect of the first issue, the chambers judge concluded that section 15 was engaged, given that all of the elements of that test were met. On the second issue the chambers judge concluded that she had “inherent jurisdiction”, flowing from the BIA, to override arbitration agreements governed by the Arbitration Act, and that the exercise of this power could function in one of two ways: (a) it could render an arbitration clause incapable of being performed or inoperative; or the BIA could prevail over s. 15 of the Arbitration Act based on the principle of paramountcy.

The chambers judge thus exercised her “inherent jurisdiction” to reject a stay, finding that s. 183 of the BIA empowers superior courts to disrupt contractual rights where doing so is necessary to achieve fairness in the insolvency process and to promote the underlying objectives of the BIA, such as the administration and protection of a bankrupt’s estate. In this case, enforcing the Arbitration Agreements would entail multiple overlapping arbitrations resulting in significant cost and delay as compared to a single judicial proceeding.

Peace River appealed, but the Court of Appeal dismissed the appeal – albeit on different grounds from the chambers judge. The Court of Appeal rejected the proposition that a court has inherent jurisdiction under the BIA, and instead grounded its decision in the doctrine of separability. In particular, the Court of Appeal observed that an arbitration clause is to be treated as its own self-contained contract, even when contained within an underlying contract. On that basis, the Court of Appeal concluded that a receiver could disclaim an otherwise valid arbitration agreement even though it adopted the underlying contract for the purpose of suing on it.

The Court of Appeal found that the Receiver had disclaimed the Arbitration Agreements by bringing the claim against Peace River, and that the Receiver was not a party to those agreements. Therefore section 15 of the Arbitration Act did not apply, or in the alternative, the disclaiming of the Arbitration Agreements rendered them “inoperative or incapable of being performed. Peace River was subsequently granted leave to appeal to the Supreme Court of Canada.

The Supreme Court’s Decision

A five-judge majority dismissed the appeal, albeit based more narrowly on a finding of statutory jurisdiction under the BIA to find arbitration agreements inoperative in the receivership context, thereby engaging the exception under section 15(2) of the Arbitration Act where an arbitration agreement is “void, inoperative, or incapable of being performed”. In reaching its conclusion, the majority made several important observations, which we discuss below.

The Relationship between Arbitration Law and Insolvency Law

First, the majority observed that there is a tension between arbitration law and insolvency law, particularly at a time when these areas both feature prominently in the commercial arena. At a general level, arbitration and insolvency are to some extent opposites, insofar as insolvency entails a centralization of proceedings while arbitration involves a decentralized approach to dispute resolution. This opposition has become particularly notable as the popularity of arbitration in Canada has continued to rise, while insolvencies have in turn risen as a result of the COVID-19 pandemic. As the majority therefore observed, it is not uncommon for parties in a dispute governed by an arbitration agreement to find themselves faced with an insolvent counterparty.

In the result, the majority noted that this tension impacts the forum in which a given dispute will be resolved, and that courts must assess the enforceability of arbitration agreements in the context of parallel insolvency proceedings on a case‑by‑case basis. In that regard, there is a presumption in favour of arbitral jurisdiction insofar as it prioritizes expediency, procedural flexibility, and specialized expertise. However, that presumption may be rebutted to the extent that arbitration would compromise the orderly and efficient conduct of a receivership, in which case a court can take control of proceedings pursuant to its statutory jurisdiction under the BIA.

Legislative Framework for Declining a Stay of Proceedings

Notwithstanding that Peace River arose in the context of British Columbia’s Arbitration Act, the majority nevertheless observed that its analysis of the relevant provisions was largely applicable in relation to arbitration legislation across Canada, given that different provinces’ arbitration legislation generally contains the same structure as it relates to stays of proceedings.

On that point, a court must consider first whether the technical prerequisites for a stay are met, and if so, it must then consider whether any exceptions apply such that a stay should be refused. In relation to the first issue, there are typically four prerequisites:

• an arbitration agreement exists;
• court proceedings have been commenced by a “party” to the arbitration agreement;
• the court proceedings are in respect of a matter that the parties agreed to submit to arbitration; and
• the party applying for a stay does so before taking any “step” in the court proceedings.

In respect of these four prerequisites, the majority made two notable observations:

• first, requesting the other party’s consent to an extension of time to file a defence does not constitute a “step” in court proceedings, insofar as the purpose of such a request is to decide whether or not to take a step, and there is no election to proceed with the action; and
• second, a receiver may be a party to the insolvent party’s pre‑receivership arbitration agreement, given that the receiver is claiming through or under the party named in the arbitration agreement. The majority addressed this issue at length, determining that this conclusion was consistent with principles of statutory interpretation and the overall aim of arbitration legislation.

In respect of the exceptions to a stay, the majority noted that the operative exception in this case pertains to whether the arbitration agreement is “void, inoperative, or incapable of being performed”, and that in turn, there were two live issues on this point:

• whether a receiver’s purported disclaimer of an arbitration agreement renders it “void, inoperative or incapable of being performed”; and
• whether the Arbitration Act permits a court to find an arbitration agreement “inoperative” or “incapable of being performed” due to a receivership.

In respect of the first point, the majority observed that a receiver cannot unilaterally disclaim an arbitration agreement and thus render it void, inoperative, and/or incapable of being performed. This would be contrary to the text and intent of section 15 of the Arbitration Act, and would “diminish the presumptive enforceability and overall predictability of arbitration agreements”. Rather, where a receiver initiates court proceedings without prior judicial approval in a dispute covered by an arbitration agreement, the court must decide whether to exercise its jurisdiction under the BIA to decline to enforce the agreement under the applicable arbitration legislation.

In respect of the second point, the majority concluded that a court may find an arbitration agreement inoperative where arbitration would compromise the orderly and efficient resolution of a receivership. The majority’s analysis yielded several significant points:

• a narrow interpretation of the words “void, inoperative or incapable of being performed” is desirable, insofar as it promotes the enforcement of arbitration agreements;
• the term “void” is relatively settled, and understood to mean “intrinsically defective” according to the ordinary rules of contract law, including when it is undermined by fraud, undue influence, unconscionability, duress, mistake, or misrepresentation;
• the term “inoperative” does not have a universal definition, although in the context of arbitration law, the term has been used to describe agreements which, although not void ab initio, “have ceased for some reason to have future effect” or “have become inapplicable to the parties and their dispute”. The making of a receivership order may be grounds for a court to find an arbitration agreement inoperative insofar as the order stays all claims against the debtor, but that is not to say that a court must decline a stay in favour of arbitration given that they might instead conclude that arbitration is more expeditious;
• the term “inoperative” also does not always cover scenarios where a receiver initiates court proceedings on behalf of a debtor, given that insolvency law generally stays claims brought against a debtor while permitting claims brought on its behalf to proceed. Again, the court will still have to decide whether litigation or arbitration is more expeditious; and
• the term “incapable of being performed” refers to where “the arbitral process cannot effectively be set in motion” because of an impediment beyond the parties’ control, such as the unavailability of the arbitrator specified in the agreement, or the dissolution of the chosen arbitral institution.

The majority therefore observed that the broad and flexible powers granted to superior courts under the BIA supported the proposition that courts are empowered under the BIA to find arbitration agreements inoperative. That being said, the majority also observed the importance of providing guidance regarding how to ascertain whether an arbitration agreement is inoperative in the context of insolvency proceedings, and identified the following non-exhaustive list of factors:

• the effect of arbitration on the integrity of the insolvency proceedings – that is, whether the arbitration would facilitate or inhibit the orderly and expeditious administration of the insolvency proceedings;
• the relative prejudice to the parties from the referral of the dispute to arbitration – that is, the court should override the arbitration agreement only where the benefit of doing so outweighs the prejudice to the parties.
• the urgency of resolving the dispute – that is, determining whether arbitration or the insolvency proceeding would be the more expeditious forum; and
• the applicability of a stay of proceedings under bankruptcy or insolvency law – that is, if applicable bankruptcy or insolvency legislation imposes a stay that precludes any proceedings, including arbitral proceedings, against the debtor;
• any other factor the court considers material in the circumstances – that is, a residual discretion of the court to weigh other relevant circumstances.

Application to the Facts of Peace River

Bearing all of the foregoing in mind, the majority concluded that although Peace River had established an arguable case that the prerequisites for a stay were met, the Arbitration Agreements were nevertheless inoperative such that the statutory exception to a stay was engaged.

In particular, the exception was engaged on the basis that “[t]he inexpediency of the multiple overlapping arbitral proceedings… [was] the determinative factor in this case”. Arbitration in this case would been a “chaotic” process involving four separate arbitrations with seven different sets of counterparties, the funding for which would have been taken from the Petrowest companies’ estates, and also involved claims against entities who were not parties to the Arbitration Agreements (meaning there would have to be parallel litigation).

Notably, the majority also observed (albeit briefly) that the Court of Appeal misapplied the doctrine of separability, finding that  separability does not apply absent a challenge to the validity of the underlying contract or of the arbitration agreement itself.

The Concurrence

A four-judge concurrence agreed with the majority in the result, but relied on a different rationale – specifically, the receivership order itself. The receivership order contained provisions which authorized the Receiver to sue in court or before an arbitrator, as well as to disclaim the Arbitration Agreements, all based on what the Receiver believed would promote the orderly and efficient resolution of the receivership. On this basis, the concurrence concluded that the terms of the receivership order effectively rendered the Arbitration Agreements inoperative.

The concurrence reached this conclusion notwithstanding that the Receiver had not expressly disclaimed the Arbitration Agreements, given that the Receiver’s action of suing in court effectively amounted to a disclaimer.

In addition, the concurrence sought to clarify that its position was not tantamount to the proposition that a receiver can unilaterally revoke a valid arbitration agreement, as only a court can make a finding that such an agreement is inoperative. The concurrence further clarified that this question is distinct from the issue of whether a receivership order authorizes a receiver to disclaim an agreement, given that where a receiver’s action is challenged, it is the court that determines whether receiver has acted in compliance with the receivership order.

Ultimately, the concurrence agreed that if the receivership order did not authorize the Receiver to sue in court, the BIA nevertheless provided the court with statutory jurisdiction to declare the Arbitration Agreements inoperative and to reject a stay, given that the multiplicity of arbitrations would have compromised the orderly and efficient resolution of the receivership.

Analysis

At a high level, the majority emphasized the importance of upholding Canada’s commitment to arbitration as a forum for dispute resolution, as evidenced by their rejection of the proposition that a receiver may unilaterally disclaim an arbitration agreement. However, the majority’s solution may create more uncertainty than it resolves, insofar as the process of a receiver seeking to avoid a pre-insolvency arbitration agreement will involve a heavily fact-driven analysis performed by a court in order to arrive at a discretionary conclusion.

In any event, the majority’s analysis nevertheless raises a number of interesting issues in the construction law context and more broadly.

First, as it relates to construction projects, this case presented something of an atypical scenario. Rather than a single, consolidated arbitration, this case would have entailed several distinct but related arbitral proceedings with a multitude of different counterparties.

This was arguably due to the contractual arrangement between Peace River and Petrowest, whereby (1) Petrowest was both a constituent member of Peace River as well as the entity to whom Peace River subcontracted work, and (2) the subcontracting occurred by way of both a formal subcontract and various purchase orders. This arrangement departed from the usual practice on major infrastructure projects, where the constituent partners of the “Project Co” will in turn create another special-purpose vehicle (whether that be a joint venture or an incorporated company) to perform the construction work, and formalize that relationship by way of a single subcontract.

By contrast, it will be interesting to see how Peace River is applied in more typical cases, where arbitration is not the patently inferior option. For example, as readers will know, it is not uncommon for subcontracts to contain ‘drag-along’ provisions which compel participation in an arbitration arising from a related contract (such as the prime contract); if a series of disputes were to arise between a general contractor, the owner, and subcontractors, these disputes could conceivably be consolidated into a single arbitration.

This would also be consistent with two general propositions common to construction law and the law of insolvency: first, that lien legislation contemplates lien actions proceeding as a class action, rather than separate proceedings for each claimant; and in the insolvency context, that a supervising court’s initial order will often include a carveout for the protection of lien rights (e.g. registration and perfection) or an alternate “lien regularization” regime (see, for example, Comstock Canada Ltd. (Re),  2013 ONSC 6043). In case of multiple lien claimants on a project with an insolvent general contractor or owner, there may be a credible argument in favour of proceeding by way of class arbitration, where the relevant contracts permit.

Second, it will be interesting to see how Peace River is applied in the context of arbitration legislation that does not contain similar language to the “void, inoperative or incapable of being performed” exception. As the majority observed, this language is derived from the Model Law and the New York Convention, as a result of which it is found in the vast majority of arbitration legislation across Canada. However, certain legislation employs different language to identify exceptions, therefore creating a degree of ambiguity as to how Peace River might apply.

For example, Ontario’s domestic arbitration legislation Arbitration Act, 1991 includes the following exceptions to a stay: …the court may refuse to stay the proceeding in any of the following cases:

1. A party entered into the arbitration agreement while under a legal incapacity.
2. The arbitration agreement is invalid.
3. The subject-matter of the dispute is not capable of being the subject of arbitration under Ontario law.
4. The motion was brought with undue delay.
5. The matter is a proper one for default or summary judgment.

From the foregoing list, the closest comparable to the “void, inoperative or incapable of being performed” exception is likely the invalidity exception. However, recent case law arguably suggests that “invalid” is more closely analogous to “void” rather than “inoperative”[1] – as a result, there is a lack of clarity as to how an Ontario court, faced with a similar issue under domestic arbitration legislation, might resolve the issue.

Finally, to the extent that a receiver may be required to apply to court in order to affirm the correctness of its attempt to disclaim an arbitration agreement, such a step may arguably compromise the efficiency of proceedings insofar as such an application would entail fully briefing the issue and in turn awaiting a decision from the court. Ultimately, if a party is committed to slowing proceedings, they may very well still have that opportunity by way of a stay application.

[1] See, for example, Uber Technologies Inc. v. Heller, 2020 SCC 16, where the Supreme Court of Canada found that an arbitration agreement was invalid under Ontario’s Arbitration Act, 1991 because it was unconscionable. In Peace River, the majority at paragraph 136 identify unconscionability as a basis for finding an arbitration agreement void.

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