http://decision.tcc-cci.gc.ca/tcc-cci/decisions/en/item/98408/index.do 
Agnico-Eagle Mines Limited v. The Queen (November 4, 2014 – 2014 TCC 324) was a decision that illustrated in very graphic terms the potential complexities involved when Canadian corporations borrow in foreign currency.
[1] Agnico-Eagle Mines Limited (“Agnico”), a taxable Canadian corporation, issued US-denominated convertible debentures in 2002 at an aggregate price of US $143,750,000. This appeal raises an interesting question as to whether Agnico realized foreign exchange gains when the convertible debentures were converted and redeemed for Agnico’s common shares.
[2] Agnico was assessed for the 2005 and 2006 taxation years on the basis that it realized deemed capital gains in the amounts of $4,499,360 and $57,676,430, respectively, pursuant to subsection 39(2) of the Income Tax Act. Agnico appeals from these assessments and submits that no foreign exchange gains were realized.
[3] The essence of the Crown’s position is that foreign exchange gains were realized because the conversions and redemption resulted in a repayment of the debt equal to its US dollar principal amount which had decreased when translated to Canadian dollars (Respondent’s Submissions, para. 35).
[4] Due to fluctuations in currency, the principal amount expressed in Canadian dollars decreased by approximately 40 percent at the time of the conversions and the redemption, from approximately Cdn $1,588 to Cdn $1,150 per convertible debenture.
[5] Agnico, on the other hand, suggests that the principal amount of the debt became irrelevant once holders exercised their rights of conversion, as most of them did. It submits that a gain could not have been realized because it borrowed far less than it paid out in Canadian dollar terms (i.e., $228,289,375 borrowed and $280,987,312 paid out, measured by the value of common shares issued to holders).
The nub of the factual problem was that under the terms of issuance of the debentures the holders were entitled to convert to common shares at their option at any time prior to redemption; Agnico was entitled to redeem the debentures after a period of 4 years for the outstanding principal plus any unpaid interest:
Terms of Convertible Debentures
[11] On or around February 15, 2002, 143,750 convertible subordinated debentures (“Convertible Debentures”) of Agnico were acquired by investors pursuant to a prospectus at a price of US $1,000 each. The Convertible Debentures traded on the TSX.
[12] The terms of the Convertible Debentures were set out in an Indenture between Agnico and Computershare Trust Company of Canada, which provided as follows:
(a) the annual interest rate was 4.50 percent;
(b) the principal amount was US $1,000, which was payable at maturity on February 15, 2012;
(c) each Convertible Debenture was redeemable at the option of Agnico on or after February 15, 2006 for a redemption price (“Redemption Price”) equal to the principal amount plus accrued and unpaid interest. Agnico had the option of delivering Common Shares on redemption instead of cash; and
(d) each Convertible Debenture was convertible at the option of a holder into 71.429 Common Shares at any time prior to redemption or maturity. In the event that a notice of redemption was issued by Agnico, the conversion right could be exercised up to the date of redemption.
Factually, the vast majority of debenture holders elected to convert since the value of the common shares received on a conversion exceeded the amount payable to them on redemption:
[25] In 2005, 10,855 Convertible Debentures were converted. Expressed in Cdn dollars at the time of issuance, the Convertible Debentures were issued for an aggregate of $17,238,825. Expressed in Cdn currency at the time of the conversions, the Common Shares issued on the conversions had an aggregate trading price of approximately $17,010,810. (In these reasons, cash for fractional shares is ignored.)
[26] In 2006, 131,784 Convertible Debentures were converted. Expressed in Cdn dollars at the time of issuance, they were issued for an aggregate of $209,286,170. Expressed in Cdn dollars at the time of the conversions, the Common Shares issued on the conversions had an aggregate trading price of approximately $262,029,722.
[27] In 2006, 1,111 Convertible Debentures were redeemed. Expressed in Cdn dollars at the time of issuance, they were issued for an aggregate of $1,764,379. Expressed in Cdn dollars at the time of the redemption, the Common Shares issued on the redemption had an aggregate trading price of approximately $1,946,780.
The Minister took the position that both the conversions and the redemptions resulted in foreign currency capital gains to Agnico in 2005 and 2006:
Income tax assessments
[34] Agnico was assessed on the basis that it realized deemed capital gains on conversions and the redemption pursuant to s. 39(2) of the Act. The amounts assessed are the same as if the principal amount had been repaid in cash.
[35] The Minister determined the gains by applying approximate rates of exchange to the principal amount of the debt on the date of issuance and on the dates the Convertible Debentures were extinguished by conversions and the redemption. This resulted in assessments of deemed capital gains in the amounts of $4,499,360 and $57,676,430 for the 2005 and 2006 taxation years, respectively.
The court first noted two important points: (1) the transactions factually resulted in an economic loss to Agnico; and (2) it was necessary to identify the true consideration for which the common shares were issued in 2005 and 2006:
[46] It is useful to begin by viewing the matter from an economic standpoint. Viewed from this lens, it is clear that Agnico did not realize gains on the conversions and instead incurred an aggregate loss. In other words, the amount Agnico received for the issuance of the Convertible Debentures was much less than what it paid out measured by the trading price of the Common Shares issued on the conversions.
[47] This is not the end of the matter, however. The measure of what Agnico paid out by issuing Common Shares is not necessarily reflected by the shares’ trading price. Rather, the amount paid out by Agnico is the amount for which the Common Shares were issued:
Teleglobe Canada Inc. v The Queen, 2002 FCA 408 and King Rentals Ltd. v The Queen, 96 DTC 1132 (TCC).
The court concluded that the consideration for the issuance of the common shares was US $14:
[52] I turn then to the transaction documents which set out the terms of the Convertible Debentures. The Indenture and the Prospectus clearly contemplate that the Common Shares are to be issued for US $14.00 per Common Share, which is equal to US $1,000 on a per Convertible Debenture basis (first page of Prospectus, and section 12.2 of the Indenture which states a conversion rate of “71.429 shares per U.S.$1,000 Principal Amount of Securities”).
[53] Agnico suggests, in effect, that these provisions do not reflect the agreement of the parties. It suggests that the Common Shares are issued for the fair market value of the Convertible Debentures at the time of the conversions, which is approximately equal to the trading price of the Common Shares.
[54] The basis for this argument, as I understand it, is that the parties have agreed to exchange the Convertible Debentures for Common Shares. I do not agree with this submission because it does not give due weight to the transaction documents and it does not accurately reflect the true consideration received by Agnico for the Common Shares. Agnico received US $1,000 per Convertible Debenture and for this it was committed to issue 71.429 Common Shares. It was this commitment which led to the Common Shares being issued. It was not because Agnico received the fair market value of the Convertible Debentures.
[55] I conclude, then, that the consideration received for the issuance of the Common Shares is US$14 per Common Share or US $1,000 per Convertible Debenture. Further, in accordance with Teleglobe, this is the amount paid by Agnico for the extinguishment of the Convertible Debentures on the conversions.
The court then turned to the impact of subsection 261(2):
[57] The remaining piece of the puzzle is to translate these two amounts into Canadian dollars, as required by s. 261(2).
[58] Subsection 261(2) requires that the relevant amounts be translated into Canadian dollars at the spot rates when the amounts “arose.”
Ultimately it boiled down to a question whether the amounts arose in 2002 when the debentures were issued or in 2005 and 2006 when the common shares were issued. The court opted for the former interpretation:
[62] The conclusion that I have reached is that the appropriate translation date in this particular case is the date that the Convertible Debentures were issued. This is when the true consideration for the issuance of the Common Shares was received by Agnico. I wish to emphasize that this conclusion is dependant on the facts of this particular case.
[63] I have been assisted in this conclusion by an analogy to a simple example in which the relevant amounts are different. Suppose convertible debentures are issued for $1,500, the principal amount of the debt is $1,100, and the convertible debentures are convertible for a fixed number of common shares. On conversion of the convertible debentures for common shares, what is the consideration for the shares? Is it $1,500 or is it $1,100? In my view, the true consideration is $1,500. This amount was received by the issuer, and in return the holder was entitled to a fixed amount of common shares. To conclude that holders paid only $1,100 for the common shares does not reflect reality.
[64] The Crown’s position is that the consideration is not the issue price of the Convertible Debentures but the principal amount of the debt at the time of the conversions. It relies on section 12.3 of the Indenture which deals with Conversion Procedures. The relevant excerpt is set out below.
No payment or adjustment will be made for dividends on or other distributions with respect to any Common Shares except as provided for in Article 12. The Common Shares issued on the conversion (together with the cash payment, if any, in lieu of fractional shares) shall be applied to fully satisfy the Company’s obligation to repay the Principal Amount. (Emphasis added)
[65] I respectfully disagree with the Crown that the sentence above is intended to reflect the consideration for the Common Shares. This sentence is buried in a lengthy section dealing with conversion procedures, and it has a more limited purpose, in my view.
[66] All that section 12.3 appears to accomplish is to ensure that the debt has been satisfied on a conversion. But the issuance of the Common Shares does more than satisfying the debt. It also satisfies Agnico’s commitment to issue Common Shares that is embedded in the conversion right.
[67] For these reasons, I conclude that the equivalent of $1,588 per Convertible Debenture was received on issuance of the Convertible Debenture and the same amount was paid for the extinguishment of the Convertible
That settled the issue of the gain on the conversion (which represented almost all of the amount in dispute), but left remaining the issue of the small amount of debenture holders who opted for redemption. There the court reached a different conclusion:
[71] Agnico submits that it did not realize a foreign exchange gain on the redemption because it paid out more than it received. The basis for this position is that the trading price of the Common Shares issued on redemption had a value greater than the amount received on issuance of the Convertible Debentures.
[72] The Crown, on the other hand, submits that Agnico paid out less than the amount received because the amount paid on redemption was based on the principal amount which had decreased in Canadian dollar terms.
[73] I agree with the Crown’s position on this issue. The terms of the Indenture make it clear that the Common Shares issued on redemption are in satisfaction of the Redemption Price which became due and payable on the date of redemption (section 3.5 of the Indenture.) The Redemption Price was US $1,022.68 for each Convertible Debenture, which is equal to the principal amount plus unpaid interest (ASF, Tab C).
[74] For purposes of determining the number of Common Shares that would be issued to satisfy the Redemption Price, the Indenture contained a formula that valued the Common Shares at a price different than the trading price on the date of redemption. In particular, the formula used earlier trading prices and a discount. In accordance with the formula, 63.4767 Common Shares were issued for each Convertible Debenture.
[75] Based on the provisions of the Indenture, I have concluded that the consideration for the issue of the Common Shares was US $1,022.68 for 63.4767 Common Shares.
[76] Agnico’s submission that the Common Shares should be valued at the trading price at the time of redemption fails to take due account of the relevant provisions of the Indenture.
In the result the conversions to common shares did not give rise to a foreign exchange gain but the redemptions did. Costs were awarded to Agnico.
Comment: It is not unlikely that this case will reach the Federal Court of Appeal (or even the Supreme Court of Canada). Nevertheless the Tax Court decision seems to be well grounded in the law and common sense. Agnico agreed in 2002 to satisfy the debentures on conversion by issuing choses in action, i.e., common shares. That obligation remained unchanged from 2002 to 2006 and intervening fluctuations in the value of US currency would not seem to impact on that obligation. The fact that the transaction resulted in an economic loss which the Crown sought to tax as an exchange gain seems to add to the soundness of the Tax Court’s analysis. In the case of the redemptions however, the obligation was always measured in a defined amount of US currency. Where that currency declined in value at the date of the redemptions it does not seem illogical to conclude that there was in fact a foreign exchange gain when the redemptions occurred.