The Quebec Court of Appeal decision in Anglo Pacific Group PLC: how “real” are your royalty rights?

19 novembre 2013

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On August 6th, 2013, the Quebec Court of Appeal issued a noteworthy decision in the matter of Anglo Pacific Group PLC v. Ernst & Young Inc. et al. It is of particular interest to parties holding or considering obtaining mining royalties in the Province of Quebec.

The Court of Appeal analyzed for the first time the legal characterization of a royalty agreement under Quebec law, including whether it can create real rights. If real rights had been created and registration requirements were complied with, it would have been necessary to consider whether the real right in question was eligible to be purged by way of a vesting order in connection with a sale by a receiver in an insolvency context or other sale under judicial authority.

Facts

In August 2009, Anglo Pacific made an $8 million loan to the debtors, two exploration companies holding exploration mining claims in the Province of Quebec. The loan was evidenced by a debenture governed by the laws of the Province of Quebec, along with an associated net smelter return royalty agreement, pursuant to which Anglo Pacific was to receive a percentage of the profits from the debtors’ future production.

At this stage, the debtors only held mining claims allowing them to explore for minerals and had not yet received a mining lease allowing them to extract and sell minerals. Given that the assets of the debtors were already subject to security interests granted in favour of first ranking creditors, Anglo Pacific required as a condition to the loan that the debtors grant a perpetual royalty agreement and second ranking hypothecs in favour of Anglo Pacific.

The debenture and royalty agreement was published in the Public Register of Real and Immovable Mining Rights, which is maintained under the Mining Act (Quebec) (the Mining Register). The second ranking hypothecs were published in the Mining Register, as well as the relevant land registry and the Register of personal and movable real rights (the substantial equivalent of the PPSA register in common law provinces) (the RPMRR) but the debenture and royalty agreement were not published in the RPMRR or the land registry.

In August 2010, the debtors commenced insolvency proceedings and the first ranking creditors eventually obtained an order appointing Ernst & Young LLP as receiver of the debtors’ assets. The receiver obtained an order from the trial judge allowing the sale of the assets of the debtors, free and clear of the rights created under the royalty agreement. This order was appealed by Anglo Pacific.

Nature of the Royalty under Quebec Law

The Court of Appeal began by clarifying that in order for a right to constitute a real right, the holder must have a direct right in the property, being the “usus”, “fructus” or “abusus” (the right to use, perceive the proceeds from or alienate the property). The Court then analyzed whether the mining claims held by the debtors constituted real rights, and consequently whether the debtors were in a position to grant real rights in favour of Anglo Pacific.

Following an in depth analysis of the legal nature of a mining claim, and of its status as a “dismemberment” by the state of its rights over the underlying mineral substances, the Court of Appeal held that the holder of a mining claim does not, by virtue thereof, have a right over the mineral substances equivalent to the rights of the holder of a mining lease. The Court however concluded that the holder of a mining claim can grant a real right over the mineral substances that would take effect at such time as the minerals are owned by the holder, after the issuance of a mining lease and extraction of the minerals.  The Court drew this conclusion by analogy to the ability of a debtor under Quebec’s civil law to grant a hypothec over future property of the debtor, which would take effect at the time that the debtor becomes the owner of such property.

The Court of Appeal added that the subsequent effective date of the real right created by the holder of the mining claim gives rise to an obligation for the parties to set forth in the governing documents a “droit de suite” (i.e. a right which attaches to the property and is opposable to future owners), a right to abandon the property, and an obligation to publish the agreements in the relevant registers.

The Language Used in the Royalty Agreement Under Review Was Insufficient

Having concluded that real rights could have been conferred by the debtors as holders of mining claims, the Court turned to the issue of whether this was actually done.

The Court of Appeal noted that simply referring to real rights in the constituting documents is insufficient to actually create and grant real rights. Instead, courts are to look for the essential characteristics of a real right, i.e. the conveyance to the beneficiary of one or more components of the property right under civil law, namely the “usus”, “fructus” and “abusus”.

Upon reviewing the text of the agreement between Anglo Pacific and the debtors, the Court of Appeal concluded that these essential characteristics were missing. The Court of Appeal reached this conclusion even though the agreements did include language purporting to create a direct real property interest which attaches to the property and is binding upon successors and assigns of the debtors.

The Court stated that Anglo Pacific was granted none of the attributes of the property right (“usus”, “fructus” and “abusus”) in the debtors’ mining claims or eventual mining leases, nor in the mineral substances extracted or to be extracted. In reaching this conclusion, the Court pointed notably to the absence of a right by Anglo Pacific to extract or sell the minerals themselves in the event of a failure by the debtors to do so, and the absence of a right of Anglo Pacific to elect to receive payment either in cash or in minerals (which the court viewed as a means of attaching the obligation to the minerals rather than to the profits made by the debtors from selling the minerals).

References to the law applicable in the other provinces of Canada

The decision is focused on the analysis of royalty agreements under civil law applicable in the Province of Quebec and would not necessarily have any impact on the related analysis in common law provinces. The Court of Appeal also specifically warned against importing into Quebec’s civil law system principles from other judicial systems, without first examining their compatibility with Quebec’s civil law system. This was apparently directed at Anglo Pacific’s attempt to rely on common law notions applicable to mining royalties.

With that proviso in mind, the Court of Appeal added that in a common law context, the Supreme Court of Canada indicated in Bank of Montreal v. Dynex Petroleum Ltd. that a right to royalties may constitute a contractual right to a portion of the substances recovered from the land (i.e. a personal right against the grantor) or, according to the intention of the parties, an “interest in land” that would confer upon the holder an interest against the property or the minerals opposable to future owners. The Court of Appeal adds that the items that may be considered in identifying an intention to create an “interest in land” in a common law context have been described by the Ontario Superior Court of Justice in St-Andrew Goldfield v. Newmont Canada Limited and include:

  1. whether the royalties are attached to the land or the minerals, as opposed to payments attached to the minerals or revenues “produced” or “removed” from the land;
  2. whether the royalty holder retains a right to enter upon the land to explore for and extract the minerals or other control over the kind of operations and activities carried on such land. The right of the royalty holder to enter the property for audit and accounting purposes would be likely be viewed as relating to the protection of the holder’s contractual right to payment of the royalty, as opposed to rights creating an interest in land;
  3. the ability of the royalty holder to claim any reversionary interest in any of the property should the owner seek to relinquish all or any portion of the property; and
  4. whether the agreement includes a provision dealing with registration of the agreement, with the Court specifically indicating that this is not sufficient by itself to demonstrate that the parties intended to create an interest in land.

Other Noteworthy Findings
The Quebec Court of Appeal also addressed certain other important issues worthy of mention. For instance, the Court concluded that publication of rights at the Mining Register served to make them opposable to the state, but not to other third parties. Thus, it may have been necessary for Anglo Pacific to publish all or certain of these rights at the land registry as well, in order to make them opposable to all other creditors and subsequent owners. Given the particular facts of the case, clients may wish to consult counsel in respect of registration requirements in order for royalty rights to be enforceable as against third parties.

Finally, the Court of Appeal held that the transaction of sale authorized by the Quebec Superior Court constitutes and has the same effects as a sale by a judicial authority under the Civil code of Quebec. Accordingly, the Court concluded that the vesting order purges the real rights affecting the property to the extent such real rights are not included in the exceptions set forth in Section 696 of the Code of civil procedure (Quebec), which survive a sale by judicial authority. Rights under royalty agreements are not included in such exceptions.

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