Blaney McMurtry LLP - 2 Queen Street East, Suite 1500 - Toronto, Canada www.blaney.com

TARGET: Bankruptcy Protection. A lesson for suppliers

Lou BrzezinskiT: 416.593.2952E:

lbrzezinski@blaney.com

Target – The USA Experience

First store opened in 1962 in Minnesota

As of 2013, ranked 36th on the Fortune 500

To date, 1,801 stores in the US

366,000 employees

Target – The USA Experience

Each store is 95,000 – 135,000 square feet

Target outlets average $300 in sales per square foot

Target USA Loved by Americans and

Canadians Alike

Target Enters Canada

Target Enters Canada

Target Enters Canada

Target buys the leases of 220 Zellers locations for $1.82 billion in 2011

Target Enters Canada

March 2013: First stores open in Guelph, Milton and Fergus

Rollout to include 133 stores by end of 2014

Analysts predicted dire consequences for domestic rivals, like Canadian Tire and Loblaws

Organization

Target Canada (TCC) is an indirect subsidiary of various entities, including Nicollet Enterprise Holdings Canada LP, all of which are subsidiaries of Target Corporation (which is

incorporated under the laws of Minnesota).

Target Canada Property LLC ("TCC Propco") is a limited liability company organized under the laws of Minnesota

For almost all the retail store leases entered into by TCC, TCC subleased the properties to TCC Propco, which has made and financed real property improvements to the premises, including improvements to fixtures. TCC Propco subsequently sub-subleased the properties back to TCC.

Why Target Failed

According to Ken Wong who is a Director of TCC, TCC failed for the following reasons:

Why Target Failed – Issues of Scale

TCC opened 133 stores across Canada in less than two years.

The breadth of the expansion stretched TCC's resources and limited TCC's ability to respond quickly and effectively to certain issues

Why Target Failed – Supply Chain Issues

Why Target Failed- Supply Chain Issues

Why Target Failed – Supply Chain Issues

TCC stores were often: (i) out-of-stock for important

merchandise, resulting in consumer dissatisfaction; and

(ii) over-stocked on other merchandise, necessitating discounts to manage the inventory and impairing operating margins.

These supply chain issues created a poor first impression in Canada

Why Target Failed – Pricing and Product Issues

Why Target Failed – Pricing and Product Issues Many in the Canadian market expected TCC to follow

Target's U.S. prices, which is a significant source of loyalty to the Target brand and a factor that differentiates Target from many of its competitors.

Rather than match or reflect the U.S. prices in Canada, TCC's pricing model was designed to compete with other similar Canadian retailers and included generally higher prices than Target's U.S. stores.

This appears to have limited TCC's ability to distinguish itself in the competitive Canadian retail marketplace.

Why Target Failed – No Online Presence

Although Target Corporation has an established and successful online retail business, TCC elected to focus on the build-out of the physical stores and improving store operations, and did not prioritize the establishment of an online retail business for Canadian customers

Financial Statements of Target

TCC does not prepare stand-alone financial statements for the Canadian operations.

For the purposes of this application, TCC and Target Corporation have prepared stand-alone financial statements as at November 1, 2014 for each of TCC (which consolidates the financial results of TCC and its subsidiaries) and TCC Propco, copies of which are attached as Exhibits N and 0, respectively, to this Affidavit.

These financial statements have not been audited.

Target is Insolvent

TCC's operational funding is provided exclusively by Target Corporation and related entities.

Target Corporation has invested more than CAD $7 billion into the expansion into Canada since the start of 2011 and has decided not to continue to fund TCC.

Without further funding and financial support from Target Corporation, the TTC is unable to meet its liabilities as they become due and is therefore insolvent. (Ken Wong affidavit)

Insolvency Protection CCAA

The Companies' Creditors Arrangement Act (commonly referred to as the "CCAA" or the "CC, double A") is a Federal Act that allows insolvent corporations the opportunity to restructure their affairs

It is quite common now for there to be liquidating CCAA proceedings in which there is no successful restructuring of the business, but rather a sale of the assets and a distribution of the proceeds to the creditors of the business.

Nortel is unfortunately one of such CCAA proceedings. (Justice Neubold in Re Nortel)

Insolvency Protection CCAA

The process begins when the company applies to the Court for protection under the CCAA. The Court will issue an Order giving the company 30 days of protection from its creditors to allow for the preparation of the Plan of Arrangement (the Initial Order) .

Typically, the Court will continue the protection beyond the initial 30-day period. There is no time limit on how long the Stay can be extended

A Monitor is an independent third party who is appointed by the Court to monitor the company's ongoing operations and assist with the filing and voting on the Plan of Arrangement.

Insolvency Protection CCAA

The Initial Order prevents suppliers from taking any collection steps against the debtor including self help remedies.

The Initial Order will also prevent supplier from discontinuing its supply arrangement with the debtor. However all shipments after Initial Order can be C.O.D.

30 day goods suppliers not entitled to repossess in CCAA

Set Off rights continue to exist so all rebates refunds and returns can be retained or used to set off against debt

Preference payments may be clawed back.

Insolvency Protection CCAA

The Plan of Arrangement is the proposal that the company presents to its creditors, addressing how it intends to deal with the debt it owes at the time of the initial filing with the Court

In order to be able to vote on the Plan and receive any distribution under it, a creditor must file a Proof of Claim with the Monitor.

Ultimately, the company files its Plan of Arrangement and forwards it to the creditors/shareholders. A meeting of the creditors is called to vote on the Plan.

Insolvency Protection CCAA

For the Plan to be binding on each class of creditors:(i) a majority of the proven creditors in that class

(by number); together with (ii) 2/3 of the proven creditors in that class (by

dollar value) must approve of the Plan presented to them.

If a class of creditors approves the Plan, it is binding on all creditors within the class, subject to the Court's approval of the Plan.

Debtor In Possession Financing and other Priorities The CCAA permits the debtor corporation to borrow funds

from a creditor during the protection period to assist it financially.

The creditor who makes this loan is afforded special priority and is often referred to as the “Dip Lender” and the funds advanced is referred to as “Dip Financing.”

The fees of the Monitor and its counsel, and the fees of the counsel to the Applicant, are charges against the assets of the debtor and given special priority.

Target Initial Order

TCC obtained its Initial Order from Mr. Justice Morawetz on January 15 2015. It’s protection period lasts for 30 days.

THIS COURT ORDERS that, except as specifically permitted herein, the Target Canada Entities are hereby directed, until further Order of this Court: (a) to make no payments of principal, interest thereon or otherwise on account of amounts owing by any one of the Target Canada Entities to any of their creditors as of the date of this Order

Target Initial Order

THIS COURT ORDERS that the Target Canada Entities shall, have the right to:

  permanently or temporarily cease, downsize or

shut down any of their respective businesses or operations, and to dispose of redundant or non-material assets not exceeding $1,000,000 in any one transaction or $5,000,000 in the aggregate

terminate the employment of such of their employees or temporarily lay off such of their employees as the relevant Target Canada Entity deems appropriate;

 

Target Initial Order

THIS COURT ORDERS that until and including February 13, 2015, or such later date as this Court may order (the "Stay Period"), no proceeding or enforcement process in any court or tribunal (each, a "Proceeding") shall be commenced or continued against or in respect of the Target Canada Entities or the Monitor or their respective employees and representatives

THIS COURT ORDERS that during the Stay Period, no Proceeding shall be commenced or continued against or in respect of Target Corporation and its direct and indirect subsidiaries (other than the Target Canada Entities) (collectively, "Target US") arising out of or in connection with any right, remedy or claim

Target Initial Order

THIS COURT ORDERS that during the Stay Period, all Persons having oral or written agreements with the Target Canada Entities or statutory or regulatory mandates for the supply of goods and/or services , are hereby restrained until further Order of this Court from discontinuing, altering, interfering with or terminating the supply of such goods or services as may be required by the Target Canada Entities,

Alvarez & Marsal Canada Inc. is appointed as Monitor DIP Lender is Target USA for $170 Million Special Charge and Priority for professional fees of $6.75

million Special Trust Fund for Employees

Subordination

Taget USA has subordinated its loan to TTC in the amount of $3.1 Billion in favour of creditors who have filed a proven claim  

Prioroties

First- Administration Charge (the professionals) (to the maximum amount of $6.75 million);

Second- KERP (Key Employees Retention Plan) Charge (to the maximum amount of $6.5 million);

Third- Directors' Charge (to the maximum amount of$64 million);

 Fourth- Financial Advisor Subordinated Charge (to the maximum amount of $3 million); and

Fifth-DIP Lender's Charge

Creditors List

On January 21 2015. the Monitor circulated a Creditor's list showing $3.4 Billion owing by TCC to its creditors

If you extract the subordinated amount owing to Target USA (Nicollett Enterprises) of $3.1 Billion leaving $300 million worth of creditors

Many industry insiders indicate that the amount owing to TCC excluding the amount owing to Nicollett Enterprises is undervalued between 10-30%

Distribution to Creditors

TCC’s plan is to liquidate the inventory in its stores to fund the distributions to Creditors

As at November 1 2014, TCC had $683,555,000 of inventory and $421,874.00 in payables.

The issue is the value of inventory presently sitting in the possession of TCC

Update on Distribution

Target enters into deal with Gordon Brothers where Target is guaranteed 70% of its costs with respect to inventory

Monitor estimates $178 million remaining in respect of inventory after all expenses (DIP, and Administrative Charges)

12 Leases sold for $128 million. 120 leases left to be liquidated (June 30th sale deadline)

New DevelopmentsThe Propco Debt

Target USA sets up its operations by putting all inventory and operations in Target Canada but puts all the leasehold expenses and rent in the hands Target Propco Canada LLP (Propco)

Propco finances leasehold and rent

Propco calls in debt on February 15th 2015. Target Canada now owes Propco $1.9 Billion

New DevelopmentsThe Propco Debt

The Propco Debt now swamps all the unsecured supplier debt.

Solution : either cram down the Propco debt through Equitible Subordination

: eliminate the debt by Substantive Consolidation

The Propco Debt

Equitable Subordination 1 Three conditions must be satisfied before a subordination will be imposed

by the court:

(i) the creditor whose claim is to be subordinated must have engaged in some form of inequitable conduct

(ii) the misconduct must have resulted in injury to the bankrupt’s other creditors or conferred an unfair advantage upon the misbehaving creditor, and

(iii) the subordination must otherwise be consistent with the provisions of U.S. bankruptcy legislation.2

 

Equitible Subordination

1) When did Target Corp know that it was exiting Canada under Bankruptcy Protection and as a result knew their Suppliers would not be paid?

As early as August 2014 NDA’s for all top level executives CCAA has no provision for 30 day goods

repossession rights. At least $100 million delivered within 30 days of filing.

Equtible Subordination

Was there sufficent disclosure of the Propco Debt made at the hearing of the initial application?

Substantive Consolidation

The treatment of the assets and liabilities of two or more enterprise group members as if they were part of a single insolvency estate. The practical effect of an order for substantive consolidation is that creditor claims are satisfied from a common pool of assets, inter-company transactions are extinguished and a levelling of creditor recoveries occurs by decreasing the recoveries of some creditors and increasing the recoveries of others.

This doctrine would eliminate the Propco Claim

Target Corporation turn off the TapAnd so Target Canada is insolvent

What can you do in the future

The local operation is totally dependent on the parent company for funding. Success in one country does not mean success in another. The tap can get turned off at any time.

Credit Insurance Get a financial statement for the local

operating company Use your offsets Form a creditor/supplier committee