BLG partner Denes Rothschild speculates that Toys R Us intended to acquire educational toy retailer
The announcement that the parent company of Mastermind Toys sought and obtained an initial order for creditor protection under the Companies’ Creditors Arrangement Act (CCAA) one month ahead of Christmas was not the present the company’s roughly 800 employees wanted to receive. It also wasn’t the outcome Mastermind hoped for, but the company knows exactly who it blames for its current situation: the Competition Bureau.
“I have never seen a legal filing in which a party seems to directly blame the Competition Bureau for forcing them into insolvency proceedings,” explains Denes Rothschild, a partner in Borden Ladner Gervais’ competition/antitrust and foreign investment group – or at least he hadn’t until he read Mastermind’s application included in the Ontario Superior Court of Justice’s Commercial List.
In that filing, Mastermind told the court it was in financial trouble. Sales and margins were down, competition had increased, and the company, which describes itself as “the largest independent specialty toy and children's book retailer in Canada,” still hadn’t recovered from the economic impacts of the pandemic. In an environment of high inflation and economic uncertainty, Mastermind had a “significant liquidity and working capital shortfall in the business” and was not profitable.
Mastermind put out word that it was seeking a buyer, and one party, referred to in the filing as the “strategic bidder,” stepped up and executed an equity purchase agreement on September 22, 2023. The deal set out a November 24, 2023 deadline, allowing Mastermind to have the money it needed to fund its obligations through the Christmas season and stave off insolvency.
The buy-out, however, triggered a mandatory pre-merger notification requirement, meaning the Competition Bureau would be looking the deal over. The standard 30-day waiting period was activated as part of that process, preventing the deal from closing.
“Once the 30 days expires, the parties can legally close, but the Competition Bureau has the option to unilaterally extend the waiting period by issuing what’s called a supplementary information request, or what is colloquially known as a SIR. A SIR is basically a request for each party to provide a significant volume of information that requires a full e-discovery process,” says Rothschild.
Responding to an SIR is expensive and time-consuming. Rothschild says a minimum cost is typically around $500,000, but that figure can easily be $1 million or more, and the process can take months –time Mastermind said it just didn’t have.
“The materials filed in the bankruptcy court suggest that what pushed [Mastermind] to file for protection is that the Competition Bureau was unwilling to quickly allow this strategic bidder to make its purchase,” says Rothschild.
Mastermind represented itself to the Bureau as a “failing firm” – a factor that must be considered under the Competition Bureau’s merger enforcement guidelines – without the resources to allow it to comply with the SIR.
In the filing, Mastermind pointedly explained how, it believed, the Competition Bureau forced insolvency on the retailer. “The effect of the Bureau issuing the SIRs was to preclude closing of the Going Concern Transaction by November 24, 2023, which was the only option that could have saved the Mastermind Entities from formal insolvency proceedings and prevented many of Mastermind LP’s over 800 employees from losing their jobs as a result. The Going Concern Transaction was terminated as of November 8, 2023.”
As to why the Competition Bureau was so thorough in reviewing this sale, Rothschild suggests that it likely has something to do with the potential buyer, and he has a strong suspicion of what company that was.
After acting on behalf of Loblaw when it purchased Shopper’s Drug Mart, which Rothschild says was (and he thinks still is) the biggest retail merger in Canadian history, “retail mergers are close to my heart.” As such, he sometimes finds himself looking at the merger registry. He did so recently and saw something that caught his eye.
“The public registry of filed mergers says that Toys R Us filed an application with respect to a transaction with Mastermind in late September. I can’t say it with all certainty, but I would say with almost total certainty that the strategic buyer was Toys R Us.” (Then, when news broke of Mastermind’s financial troubles, Rothschild started “poking around” in the court filings, where he read the company’s accusation against the Competition Bureau.)
Working from that assumption, that the buyer was a national toy store chain and not something like a private equity firm, would lead the Competition Bureau to consider how this deal would affect competition and pricing in the retail toy space, says Rothschild.
“Wherever there was both a Mastermind and a Toys R Us, they would say, ‘Okay, within this radius, how many other brick-and-mortar toy retailers are there? And for each of those local areas, they would then say, ‘Is there enough remaining competition among bricks-and-mortar retailers?’ And then they would say, ‘even if there’s not enough remaining competition with bricks-and-mortar retailers, then is there competition from online sources sufficient to prevent the combined post-merger party from raising prices?” he explains.
According to Rothschild, the Competition Bureau is still grasping how online retailing affects competition in the marketplace. “It hasn’t necessarily come to an absolute position that, in the retail space, online is necessarily a full alternative to bricks-and-mortar. There has certainly been movement in that respect, and for some things, I think it would be very hard to argue otherwise, but the fact this didn’t sail through…it does seem that it’s not a slam dunk that if you’ve got two bricks-and-mortar retailers merging they can walk in and say ‘online [competitors], so there’s no problem here.’”
Rothschild says the other takeaway for lawyers from this situation is that failing firms don’t automatically get a pass from the Competition Bureau to merge with their competitors.
“Parties that are struggling financially have to recognize that the Bureau is not just going to roll over and not conduct a comprehensive review, even where you can show that if the Bureau continues its review, they are going to file for creditor protection. It seems that’s what the party said to the bureau, and the bureau said, ‘Okay, but we’re going to continue our review anyway.’ The Bureau was not moved by that,” he says.
“Going forward, when advising clients who are in a situation like Mastermind, I think that we, as lawyers, will have to advise them that even providing compelling evidence that issuing a SIR is going to lead to a CCAA filing is far from a guarantee that the Bureau will back off.”