Equity Kickers And The Criminal Rate Of Interest: Part II

Private equity and alternate lenders often take a basket of rights when investing in an entity. The basket may include equity, options, warrants and/or debt. In the case of debt financing, lenders often negotiate equity sweeteners/kickers in the form of options or warrants to increase their possible return, in addition to receiving interest on a loan. Lenders should be aware that in such cases there is a risk that the gains with respect to such equity received could be considered "interest" and trigger a criminal interest rate. Recent cases have materially reduced that risk, however, courts have been careful to characterize the decisions as fact-specific, leaving the door open for such sweeteners/kickers to fall within the criminal interest rate provisions.

Section 347 of the Criminal Code (Canada) defines a criminal rate as an effective annual rate of interest exceeding 60 percent. Interest by definition means "the aggregate of all charges and expenses, whether in the form of a fee, fine, penalty, commission or other similar charge or expense or in any form, paid or payable for the advancing of credit under an agreement or arrangement by or on behalf of the person to whom the credit is or is to be advanced." Put simply, a criminal interest rate can be triggered in two ways. First, by entering into an arrangement or agreement to receive interest at a criminal rate. Second, by receiving payment of interest at a criminal rate. The latter creates a "wait and see" approach. In other words, the concern is that if equity sweeteners granted by the borrower in a loan transaction are considered to be "interest", the transaction could run afoul of the 60 percent criminal interest rate at a later date, when the sweeteners become more valuable. Canadian courts have rarely addressed the question of whether shares, warrants, options or other equity issued by a borrower in support of a loan can constitute 'interest' within the meaning of section 347 of the Criminal Code (Canada).

In May 2017, Bennett Jones published a blog on the decision in Bimman v Neiman, 2015 ONSC 2313 [Bimman] where the Ontario Superior Court considered the ancillary issue of equity sweeteners granted by a company to its shareholders. In that case, a company could not secure third- party financing, therefore it issued shares to its shareholders in response to two cash calls. The plaintiff was a shareholder who had not participated in the cash calls and who argued that the issuance of...