Recapitalizations or note/pref exchanges

Overview

Banro is a CBCA holding company with two mines in the Democratic Republic of Congo held though indirect DRC subsidiaries. It, along with its direct and indirect Barbados subsidiaries, filed for protection under the CCAA on December 22, 2017 and was then delisted from the TSX and NYSE American. The secured debt (of U.S.$233M) to be compromised is owed at the level of a Barbados subsidiary held directly by Banro (BGB). This will permit Banro to effectively emigrate to the Cayman Islands as part of the proposed Plan of Compromise and Reorganization.

In particular, Banro’s shares of BGB will be cancelled, BGB will issue shares to a newly-formed Caymans company (Newco) for nominal consideration, and the secured creditors will receive shares of Newco in satisfaction of their secured claims against BGB – except that 25% of their claims will instead be treated as unsecured claims. The unsecured creditors will receive nothing other than sharing pro rata in a nominal sum ($10,000), and the Banro shareholders will receive nothing at all. The DIP lenders will receive 74% of the equity of Newco and all the voting rights, and the other secured creditors will receive 26% of that equity in the form of non-voting shares, subject to dilution by warrants.

The U.S. tax characterization of the reorganization is stated to be unclear.

Banro

Banro Corporation is a Canadian gold mining company focused on production from the Twangiza and Namoya mines, which began commercial production in September 2012 and January 2016 respectively. Through BGB, it holds five Barbados holding companies (which are included as applicants). Each such applicant subsidiary in turn holds a DRC subsidiary (a "Non-Applicant Subsidiary" - see below).

Newco

An exempted company organized under the laws of the Cayman Islands.

BGB

Banro Group (Barbados) Limited, which is wholly-owned by Banro.

Non-Applicant Subsidiaries

Banro Congo Mining S.A., Namoya Mining S.A. (“Namoya DRC”), Lugushwa Mining S.A., Twangiza Mining S.A., and Kamituga Mining S.A.

DIP Lenders

Baiyin and Gramercy (lenders under the Interim Facility).

Interim Facility (DIP loan)

A senior secured super priority (debtor-in-possession) interim, non-revolving credit facility up to a maximum principal amount of US$20,000,000 dated as of December 22, 2017. The Circular does not appear to disclose whether the borrower was Banro or BGB, but presumably it was the latter in order to avoid structural subordination.

Baiyin

Baiyin International Investment Limited and affiliates thereof within the direct or indirect control of Baiyin Nonferrous Group Company, Limited.

Gramercy

Gramercy Funds Management LLC, as agent for and on behalf of the funds and accounts for which it acts as investment manager or advisor;

Secured Notes

The 10% Secured Notes due March 1, 2021 in the principal amount of US$197.5 million, for which Banro Group (Barbados) Limited is the obligor and the other Banro parties are guarantors.

Doré Loan

A loan in the total principal amount of US$10.0 million advanced pursuant to a letter agreement dated July 15, 2016 between Baiyin International Investment Ltd and Twangiza Mining SA.

Affected Secured Claims

75% of the proven claim amounts for the Secured Notes, the Doré Loan and Namoya Forward II Agreement, being 75% of US$203,506,170, US$10,247,120 and US$20,000,000, respectively.

Equity effect of restructuring

The restructuring contemplates an equitization of 75% of all Affected Secured Claims pursuant to the Plan, pro-rata with their claim values, into 100% of the Class A and B Shares (“New Equity”) of Newco (subject to subsequent dilution on account of the Stream Equity Warrants and the New Secured Facility Warrants). The balance of 25% of the Affected Secured Claims will participate in and be compromised with the recognized unsecured creditors. It is anticipated that immediately following the Implementation Date, Baiyin will hold approximately 34.07% of the total outstanding equity of Newco (i.e. both Class A Common Shares and Class B Common Shares), Gramercy will hold approximately 40.28%, and the remaining Affected Secured Creditors will hold approximately 25.65% (subject to dilution for third parties down to 23.1% of the New Equity in the event that the Stream Equity Warrants and the New Secured Facility Warrants are exercised at full value). Baiyin and Gramercy will hold, between them, 100% of the voting equity of Newco in the form of Class A Common Shares.

Recapitalization steps

1. All of BGB's shares held by Banro will be cancelled. BGB will simultaneously issue 100 common shares to Newco;
2. as consideration for the Stream Amendments, the Stream Purchaser for the Twangiza Streaming Agreement and for the Namoya Streaming Agreement will receive penny warrants exercisable into an equity stake of up to 4.553% and 3.447%, respectively of the Newco common equity;
3. all of the issued and outstanding equity interests in Banro will be cancelled and Banro will issue 100 common shares to BGB;
4. concurrently with 5 and 6 below. each of Baiyin and Gramercy, as holders of Affected Secured Claims, will be entitled to receive a distribution (pro rata as between the two of them) of the Class A Common Shares of Newco in settlement of their Affected Secured Claims;
5. Each other holder of Affected Secured Claims will be entitled to receive a pro rata distribution of the Class B Common Shares of Newco in settlement of its Affected Secured Claims;
6. New Equity received by an Affected Secured Creditor will be applied first to the payment of principal rather than to the payment of accrued and unpaid interest;
7. Each proven unsecured creditor will be entitled to receive a pro rata distribution from a cash pool of $10,000;
8. the intercompany Claims will be treated as determined by the Applicants;
9. the Interim Facility will be replaced by a new secured facility; and
10. Newco will issue warrants on the common shares of Newco (the “New Secured Facility Warrants” to the DIP Lender.

Effect of Recapitalization

Upon completion of the Recapitalization, Affected Secured Creditors will become shareholders of Newco, Banro, will, in turn, be an indirect, wholly owned subsidiary of Newco and BGB will be a direct, wholly-owned subsidiary of Newco. The Applicants (other than Banro) and the Non-Applicant Subsidiaries will remain as direct and indirect subsidiaries of BGB. The Gold Streams, the Twangiza Forward I Agreement and the Namoya Forward I Agreement will remain in effect.

Canadian tax consequences

Disposition by Secured Noteholders

A Resident Holder of Secured Notes will be considered to have disposed of its Secured Notes upon the exchange of Secured Notes for New Equity and the Resident Holder's pro rata share of the Affected Banro Unsecured Cash Pool (collectively the "Secured Note Consideration") on the Implementation Date.

Allocation first to interest

Under the Plan, the aggregate fair market value of the Secured Note Consideration received by an Affected Creditor in exchange for Secured Notes will be allocated first to the principal amount of the Secured Notes and the balance, if any, to the accrued and unpaid interest on the Secured Notes….Consequently, it is not expected that any amount of interest accrued on the Secured Notes will be paid or satisfied under the Plan.

U.S. tax consequences

The U.S. federal income tax treatment of the exchange of Proven Affected Secured Claims for New Equity by U.S. Holders pursuant to the Plan is unclear, due in part to the uncertainty regarding the formal steps of the exchange. One possibility is that the Plan could be implemented by means of the New Equity being deemed to be transferred, directly or indirectly, by Newco to BGB, and such New Equity then being deemed to be transferred by BGB to the Holders in satisfaction of their Claims. In this scenario, a U.S. Holder would treat the exchange as a taxable transaction in which it generally recognizes gain or loss for U.S. federal income tax purposes in an amount equal to the difference between (a) the fair market value of the New Equity, and (b) the U.S. Holder's adjusted tax basis in the Claim surrendered in the exchange. In light of the fact that the Secured Notes have been treated as contingent payment debt instruments for U.S. federal income tax purposes, any gain on the exchange of a Proven Secured Notes Claim would be treated as ordinary income and any loss on such a claim would be treated as ordinary loss to the extent of prior inclusions of original issue discount ("OID"), with any excess loss a capital loss.

It is also possible that the U.S. Holders of Proven Affected Secured Claims could be treated as exchanging their Claims directly with Newco for the New Equity. In that case, the U.S. federal income tax consequences to a U.S. Holder would depend in part on whether the Claims surrendered in the exchange constitute "securities" for U.S. federal income tax purposes.

If a U.S. Holder of a Proven Affected Secured Claim is treated as exchanging its Claim directly with Newco for the New Equity and such Claim is not treated as a "security," the U.S. Holder would be required to recognize gain (but not loss) on the exchange in an amount equal to the difference between (a) the fair market value of the New Equity, and (b) the U.S. Holder's adjusted tax basis in the Claim surrendered in the exchange. If, on the other hand, the Proven Affected Secured Claim is treated as a "security," a U.S. Holder generally would not recognize gain or loss on the exchange, provided that a U.S. Holder owning 5% or more of the total voting power or total value of the stock of Newco immediately after the exchange may be required to recognize gain (but not loss) unless it enters into a gain recognition agreement with the IRS.

Overview

Lightstream Resources carries on its business through two partnerships. As at the end of 2015, it had $1.53B in Canadian tax pools available to it. It had approximately Cdn.$1.53B of long-term debt as at June 30, 2016 comprising Secured Notes of U.S.$650M, Unsecured Notes for U.S.$254M and amounts owing under a Revolving Credit Facility. It defaulted on an interest payment owed to the Secured Noteholders in June 2016, and is proposing a "Recapitalization" transaction (mostly occurring under a CBCA Plan of Arrangement) which, in approximate terms, will entail

• a s. 86 exchange by its common shareholders of their shares for new common shares representing approximately 2.25% of the post-Recapitalization issued and outstanding common shares plus three-year out-of-the-money Warrants to acquire three times that number of common shares,
• the exchange by the Unsecured Noteholders of their Notes for common shares representing 2.75% of that total plus three-year Warrants (not as much out-of-the-money) to acquire the equivalent of 5% of the common shares and
• the exchange by the Secured Noteholders for common shares representing 95% of that total (with Apollo and GSO Capital Partners holding about 75%).

These exchanges (net of some additional secured borrowings) will eliminate Cdn.$1.175B of debt and eliminate Cdn.$108 million of annual interest expense. The transactions are structured so that the forgiveness respecting the Unsecured Notes will occur immediately before an amalgamation of Lightstream with a wholly-owned numbered company, whereas the exchange of the Secured Notes will occur after the amalgamation. The value of the Warrants received on the s. 86 exchange of the old common shares is not expected to give rise to a deemed dividend, the exchange of the Unsecured Notes will occur on a non-rollover basis and the exchange of the Secured Notes is targeted to occur on a s. 51 rollover basis (assuming the Secured Notes can qualify as capital property), so that a conversion right is first to be added to the Secured Notes before the conversion occurs.

Lightstream

A TSX-listed Alberta company engaged in the exploration, development and production of oil and natural gas reserves in Alberta, B.C. and Saskatchewan with a focus on light oil. As at August 29, 2016, it had 198,804,867 Common Shares issued and outstanding. It carries on most of its business through two wholly-owned partnerships: LTS Resources Partnership and Bakken Resources Partnership. As at December 31, 2015 it had Canadian tax pools (mostly CDE, CEE and UCC) of $1.53B.

ArrangeCo

9817158 Canada Ltd., a corporation incorporated pursuant to the CBCA and a wholly-owned subsidiary of Lightstream.

Events leading to default

During the third quarter of 2015, Lightstream issued a total of U.S.$650 million of Secured Notes. U.S.$450 million of the Secured Notes were issued in exchange for U.S.$546 million of outstanding Unsecured Notes, which were cancelled, and the remaining U.S.$200 million of the Secured Notes were issued for cash proceeds that were used to reduce outstanding borrowing under the Revolving Credit Facility. The exchange transaction reduced the Company's overall debt by approximately $90 million. On April 29, 2016, the borrowing base of the Revolving Credit Facility was reduced from $550 million to $250 million which resulted in a borrowing base shortfall of approximately $121 million including issued letters of credit. On June 14, 2016, Lightstream determined to not make the interest payment in the amount of U.S.$32.1 million to the Secured Noteholders due on June 15, 2016.

Recapitalization

As the initial step in the Recapitalization, Lightstream intends to continue into the federal jurisdiction of Canada.

Under the Plan of Arrangement:

1. the Shareholder Rights Plan will be terminated;
2. the terms of the Indenture for the Secured Notes will be amended to include a conversion right into New Common Shares; such amendment will not constitute a novation;
3. all outstanding Options will be repurchased for cancellation for nominal consideration of $0.01 per option;
4. all accrued and unpaid interest on the Secured Notes and the Unsecured Notes will be forgiven;
5. the outstanding principal amount of the Unsecured Notes shall be forgiven to the extent it exceeds the fair market value of the consideration received in 9;
6. Lightstream and ArrangeCo shall amalgamate and continue as "Lightstream Resources Ltd." on the basis that all shares of ArrangeCo shall be cancelled and the stated capital account of the shares of Amalco will be equal to the stated capital account in respect of the Common Shares of Lightstream;
7. the Common Shares will be consolidated on approximately an 88.29:1 basis (approximately 92:1 on a fully-diluted basis), such that the Shareholders will hold an aggregate of approximately 2,250,000 Common Shares;
8. the Lightstone share capital will be reorganized by redesignating the Common Shares as Lightstream Class A Common Shares, which shall have the same rights and restrictions as the Common Shares except that each Class A Share shall be entitled to two votes at any meeting of the Shareholders, by creating New Common Shares with the same attributes as the Common Shares before the reorganization, and by exchanging each Class A Common Shares for one New Common Share and the pro rata portion of 7,750,000 New Series 2 Warrants (each being a five-year warrant giving a right to acquire one New Common Share at exercise prices escalating from $12.88 at inception to $14.96 commending on June 1, 2019);
9. the Unsecured Notes will be exchanged into a number of New Common Shares equal to approximately 2.75% of the total issued and outstanding New Common Shares following the completion of the Arrangement and a total of 5,000,000 New Series 1 Warrants (each being a five-year warrant giving a right to acquire one New Common Share at exercise prices escalating from $10.25 at inception to $11.77 commensing on June 1, 2019);
10. simultaneously with 9, the Secured Notes will be converted into New Common Shares equal in number to approximately 95% of the total issued and outstanding New Common Shares following the completion of the Arrangement;
11. an offering solely to Secured Noteholders (eligible under U.S. securities laws) of approximately U.S.$39,285,000 (issued with an original cash issue discount of 2%) principal amount of New Secured Notes, which is fully backstopped by certain Secured Noteholders, will be completed, so that funds received five-days previously (or three days previously in the case of subscriptions by the “Backstoppers,” will come out of escrow;
12. all outstanding the deferred share compensation plan units and Incentive Shares will immediately vest and be adjusted to reflect the Common Share Consolidation and capital reorganization contemplated by the Plan of Arrangement and will have a maximum term to expiry of 180 days following the completion of the Arrangement, and all other options, warrants, rights or similar instruments derived from, relating to, or convertible or exchangeable for Common Shares, shall be cancelled.

In addition, the applicable lenders have agreed in connection with the Recapitalization to provide the New Revolving Facility to the Company with a commitment of $400 million on specified terms and conditions.

Ownership following recapitalization

Upon completion of a Secured Note Conversion Transaction or a Secured Note Exchange Transaction, funds and accounts managed by Apollo Capital Management, LP, and GSO Capital Partners, will beneficially own or exercise control and direction over, directly or indirectly, approximately 54,475,423 and 20,205,514 New Common Shares (54.5% and 20.2% of the issued and outstanding), respectively.

New Secured Notes

The Company has entered into a Backstop Agreement with the “Backstoppers” in which they have agreed to acquire any of the New Secured Notes not otherwise purchased by Eligible Secured Noteholders pursuant to the New Secured Notes Offering. The New Secured Notes will bear interest at an annual rate of 12%, cash payable quarterly in arrears. The New Secured Notes mature in 2020. The New Secured Notes will be secured subordinate to the New Revolving Facility. The Company is not required to make mandatory redemption payments; however, the Company may be required to offer to purchase the New Secured Notes in accordance with provisions related to asset sales and change of control events.

Alternative CCAA proceeding

If the requisite approvals for the Continuance and Arrangement are not obtained, or the Company is otherwise unable to complete the Arrangement (including because the Company is unable to reach a settlement that is acceptable to the “Initial Consenting Noteholders” (i.e., those who entered into the Support Agreement) in respect of existing litigation involving the Company and certain of its Unsecured Noteholders by September 16, 2016), the Company will, pursuant to the terms of its support agreement with an ad hoc committee of Secured Noteholders (the "Ad Hoc Committee") (the "Support Agreement"), commence proceedings under the CCAA. In the event the Company moves to the CCAA process, the members of the Ad Hoc Committee will make (or direct) a credit bid (the "Secured Notes Credit Bid") of the full amount of the claims outstanding in respect of the Secured Notes through a newly formed entity, which credit bid may serve as a stalking horse transaction in the sale process under the CCAA (the “SISP”) if the Ad Hoc Committee so elects, or the Ad Hoc Committee may implement an alternative transaction structure within the CCAA proceedings that is acceptable to the Ad Hoc Committee and Lightstream, each acting reasonably.

Matching of terms under Secured Notes Credit Bid

The members of the Ad Hoc Committee have agreed that, subject to the terms and conditions of the Support Agreement, in the event that the Secured Notes Credit Bid is the successful bid, they will replicate the consideration offered to Unsecured Noteholders or Shareholders in the Recapitalization as part of the Secured Notes Credit Bid, provided that, the Unsecured Noteholders or Shareholders, as the case may be, previously approved the Recapitalization at the requisite levels at their respective special meetings held to vote on the Recapitalization. Alternatively, if the Secured Notes Credit Bid is not the successful bid, the members of the Ad Hoc Committee have agreed that, in the event that they are repaid in full, then upon receipt of such repayment they will make $20,000,000 available to Shareholders provided that the Shareholders previously approved the Recapitalization at the requisite levels at the special meeting held to vote on the Recapitalization and that no other consideration was made available to the Shareholders from the Ad Hoc Committee or otherwise. However, the obligation to pay such consideration to the Shareholders or Unsecured Noteholders, as applicable, is not applicable if certain Unsecured Noteholders are successful in obtaining any remedy in respect of their existing litigation against the Company that would have a material adverse effect on the Company or would impact the priority or composition of the Secured Noteholders.

Canadian tax consequences

Share exchange

Provided that the fair market value of the 7,750,000 New Series 2 Warrants is less than the paid-up capital of the Lightstream Class A Shares, the Company will not be deemed to have paid a dividend to Resident Holders under s, 84(3). The Company estimates that the fair market value of the New Series 2 Warrants to be distributed to Shareholders on the Share Exchange will be less than the paid-up capital of the Lightstream Class A Shares at such time and, as a result, no deemed dividend should arise. The Share Exchange will occur under s. 86 and current s. 84(4.1) will not apply to deem the distribution of the New Series 2 Warrants to the Resident Holders to be a dividend. A Resident Holder will only recognize a capital gain on the Share Exchange to the extent that the fair market value of the Resident Holder's Pro Rata Portion of 7,750,000 New Series 2 Warrants and the adjusted cost base of the New Common Shares received on the Share Exchange, less the amount of any dividend deemed to be received (as noted above), exceeds the adjusted cost base of the Resident Holder's Lightstream Class A Shares determined immediately before the Share Exchange.

Interest on Notes

A Resident Holder that is a corporation, partnership, unit trust or any trust of which a corporation or partnership is a beneficiary will generally be required to include in income the amount of interest accrued or deemed to accrue on the Notes up to the Effective Date or that became receivable or was received on or before the Effective Date, to the extent that such amounts have not otherwise been included in the Resident Holder's income for the year or a preceding taxation year. Any other Resident Holder, including an individual, will be required to include in income for a taxation year any interest on the Notes received or receivable by such Resident Holder in the year (depending upon the method regularly followed by the Resident Holder in computing income), except to the extent that such amount was otherwise included in the Resident Holder's income for the year or a preceding taxation year. A Resident Holder may be entitled to deduct from its income for the year an amount equal to any accrued and unpaid interest in respect of the Unsecured Notes and Secured Notes that was previously included in the Resident Holder's income and is settled and extinguished for no consideration as part of the Recapitalization.

Amendment of Secured Notes and conversion

As a step in the Recapitalization, the terms and conditions attaching to the Secured Notes will be amended to add the Secured Noteholder Conversion Right. In accordance with CRA administrative policy, this amendment should not give rise to a disposition of Secured Notes. A Resident Holder that exercises the Secured Noteholder Conversion Right and converts Secured Notes into New Common Shares will, provided that s. 51 applies to such conversion, be deemed not to have disposed of its Secured Notes and, accordingly, will not be considered to realize a capital gain (or a capital loss) on such conversion.

Exchange of Unsecured Notes

On the exchange of Unsecured Notes for New Common Shares, a Resident Holder will be considered to have disposed of its Unsecured Notes for proceeds of disposition equal to the fair market value of the New Common Shares and the fair market value of the Unsecured Noteholder's Pro Rata Portion of New Series 1 Warrants received in exchange for such Unsecured Notes.

U.S. tax consequences

Summary of transactions

Pursuant to the Plan of Arrangement the following transaction will occur: (a) the Existing Shareholders will ultimately exchange their Common Shares for New Common Shares such that the Shareholders hold, in the aggregate, approximately 2,250,000 New Common Shares; (b) the Common Shares shall be re-designated as Lightstream Class A Shares; and (c) the Shareholders will exchange each Lightstream Class A Share for the Shareholder Consideration consisting of one New Common Share and approximately 3.4444 New Series 2 Warrants (the "Class A Exchange").

“E” reorg treatment

The Common Share Consolidation and the Class A Exchange should be treated as separate transactions. The Common Share Consolidation and the Class A Exchange should each qualify as a tax-deferred "recapitalization" within the meaning of Code s. 368(a)(1)(E).

Overview

The debt of the Corporation, which filed for protection under the CCAA, consists of U.S.$4.1B of notes (the “Notes”), U.S.$1.3B of loans (the “Credit Facilities,” and with the Notes, the “Affected Claims”) and U.S.$0.50B of DIP financing, of which U.S.$0.24B was advanced by Catalyst (the “Plan Sponsor”). Under the proposed CCAA Plan, the notes and loans will be exchanged for approximately 58.2% of the Corporation’s fully diluted shares, the Catalyst DIP financing will be exchanged for 29.3% of the fully diluted shares – and the DIP providers will hold warrants (with a nominal exercise price) to acquire 12.5% of the fully diluted shares. In addition, those who acted to support the recapitalization before a specified time will receive, in aggregate, an extra 2.5% of the fully diluted common shares (the “Early Consent” shares - which effectively come out of the shares otherwise receivable by those slower to act). The holders of the Notes and Loans also will have the option to cash in some of their common shares, to be funded out of additional cash subscriptions by the Plan Sponsor and some others. Existing common shareholders will hold 0.006% of the post-Plan shares. The U.S. tax disclosure indicates a risk of the Early Consent shares being treated as a taxable consent fee, whereas the Canadian disclosure indicates that they are part of the exchange consideration. The U.S. tax disclosure discusses the risk that U.S. holders would receive rollover treatment – on the basis that their debt holdings are “securities,” or that the Plan would be considered to be a recapitalization. There are no Canadian risk disclosures.

The Corporation

Pacific Exploration & Production Corporation (formerly Pacific Rubiales Energy Corp.) is a B.C. public company. On April 27, 2016, it applied for creditor protection under the CCAA and an initial order was granted by the Ontario Superior Court of Justice (Commercial List). On May 25, 2016, its Common Shares were delisted from the TSX.

The Notes held by the Noteholders

(i) 5.375% senior unsecured notes due January 26, 2019; (ii) 7.25% senior unsecured notes due December 12, 2021; (iii) 5.125% senior unsecured notes due March 28, 2023; and (iv) 5.625% senior unsecured notes due January 19, 2025.

Credit Facilities owed to the Bank Lenders

(i) the U.S.$109,000,000 Credit and Guaranty Agreement dated as of May 2, 2013 with Bank of America, N.A. as lender; (ii) the U.S.$250,000,000 Credit and Guaranty Agreement dated as of April 8, 2014 with HSBC Bank USA, N.A., as administrative agent, and the lenders party thereto; and (iii) the U.S.$1,000,000,000 Revolving Credit and Guaranty Agreement dated April 30, 2014 with Bank of America, N.A., as administrative agent, and the lenders party thereto.

Plan Sponsor

The Catalyst Capital Group Inc.

DIP Offering

U.S.$500 million of debtor-in-possession financing (the "DIP Offering"), less an original issue discount, has been provided jointly by certain of the Noteholders (the "Funding Creditors") and the Plan Sponsor. The Plan Sponsor has provided U.S.$240 million for the purchase of notes (after taking into account the original issue discount) pursuant to the DIP Offering (the "Plan Sponsor DIP Financing") and the Funding Creditors have provided U.S.$240 million for the purchase of notes and warrants (after taking into account the original issue discount) pursuant to the DIP Offering (the "Creditor DIP Financing").

Warrants

Funding Creditors have purchased warrants with a nominal exercise price that will allow them to acquire their pro rata share of approximately 12.5% of the fully diluted common shares of the reorganized Corporation upon implementation of the Plan.

DIP L/C Facility

Certain of the Bank Lenders have provided a letter of credit facility to the reorganized Corporation in the amount of U.S.$115,532,794 (the "DIP L/C Facility").

The Plan

• The Plan Sponsor DIP Financing will be exchanged for approximately 29.3% of the fully diluted common shares of the reorganized Corporation.
• The claims of Affected Creditors in respect of approximately U.S.$4.1 billion under the Notes, approximately U.S.$1.2 billion under the Credit Facilities, as well as the Affected Claims of other Affected Creditors, will be settled in exchange for approximately 58.2% of the fully diluted common shares of the reorganized Corporation (the "Claim Settlement Shares"), which shall be allocated pro rata to the Affected Creditors. However, persons holding an Affected Claim in respect of the Notes who signed and returned a Support Agreement or joinder thereto by May 6, 2016, who vote in favour of the Plan and who hold Notes in an aggregate principal amount equal to, or in excess of, the fair market value of the "Early Consent Shares," will receive, as additional consideration in exchange for their Affected Claims, their pro rata share of approximately 2.2% of the fully diluted common shares of the reorganized Corporation which shall be allocated from the Claim Settlement Shares otherwise payable to the Noteholders.
• Under the Cash Election, certain Affected Creditors will have the opportunity to receive cash in lieu of the Claim Settlement Shares that they would otherwise be entitled to receive. The Plan Sponsor and certain other Noteholders have agreed to subscribe for up to U.S.$250 million of common shares of the reorganized Corporation on the effective date of the Plan to enable Affected Creditors to participate in the Cash Election. Each Affected Creditor will have the option of electing to make a Cash Election to receive cash in lieu of the New Common Shares it would otherwise be entitled to receive under the Plan. Such Cash Election may be made at the Designated Rate (U.S.$16.00 per share, on a post-Common Share Consolidation basis), an Offer Rate (being a single rate to be designated by the Cash Election Creditor on a post-Common Share Consolidation basis, provided that such rate must be U.S.$16.10 or such higher rate in increments of U.S.$0.10 above U.S.$16.10), or a combination thereof. Cash Elections made (i) at the Designated Rate where such elections are in aggregate in excess of U.S.$250,000,000 or (ii) at the Offer Rates, will only be honoured if, and only to the extent that, the Plan Sponsor agrees to subscribe for New Common Shares based on such increased prices or at such amounts, as the case may be, in which case elections made by Cash Election Creditors will be accepted starting with the lowest price until the subscriptions are satisfied.
• The common shares of the Corporation will be consolidated (into "new Common Shares") on the basis of one post-consolidated share for each 100,000 common shares outstanding immediately prior to the consolidation.
• The Creditor DIP Financing will not be repaid upon the Corporation's exit under the Plan but instead will be amended and restated as five-year secured notes (the "Exit Notes"). The Exit Notes will accrue interest at a rate equal to 10% per annum and may be redeemable by the Corporation subject to certain terms, including the payment of a prepayment premium. For a period of two years following the date the Plan is implemented, the Corporation will have the option, if the Corporation's unrestricted cash in operating accounts falls below U.S.$150 million, to make "payments-in-kind" with respect to any interest payment owed on the Exit Notes at a rate of 14% per annum.
• The DIP L/C Facility will be amended and restated as an exit letter of credit facility expiring in June 2018.

Effect of Plan

• The Corporation's indebtedness will be reduced by approximately U.S.$5.1 billion.
• Annual interest expense will be reduced by approximately U.S.$258 million.
• The U.S.$250 million of Exit Notes will be the only long-term debt in the Corporation's capital structure outside of facilities to support letters of credit or hedging activities.
• Existing Shareholders will hold, in the aggregate, approximately 3,000 Common Shares, which will constitute no more than 0.006% (rounded to the nearest thousandth of a percent) of the Common Shares outstanding following the issuance of the New Common Shares.

The Corporation has agreed with the DIP Note Purchasers that it shall cause the consolidated Shares to be publicly listed and available for trading on the TSX or, if such listing is not available, on the TSX-V.

Canadian tax consequences

Interest entitlements and settlements

Under the initial CCAA order, interest on Affected Claims ceased to accrue as of the filing date. Under the Plan, no amount will be paid in satisfaction of accrued and unpaid interest on the Notes and Bank Lender's Allowed Claims. Any accrued and unpaid interest on the Notes and Bank Lender's Allowed Claims up to the Filing Date will be forgiven by Noteholders and Bank Lenders, respectively. The principal amount of a Noteholder's Notes or Bank Lender's Allowed Claim, as applicable, will be forgiven by the applicable Noteholder or Bank Lender to the extent such principal amount exceeds the aggregate of (i) the fair market value on the Implementation Date of New Common Shares to be issued to such Noteholder or Bank Lender and (ii) the Cash Amount payable to such Noteholder or Bank Lender in satisfaction of the principal amount of its Notes or Bank Lender's Allowed Claims, as applicable….

Reversal of accrued interest

Where a Canadian Holder is required to include an amount in income on account of interest on Notes that accrues in respect of the period prior to the date of acquisition of such Notes or Bank Lender's Allowed Claims, as the case may be, by such Canadian Holder, the Canadian Holder should be entitled to a deduction of an equivalent amount in computing income….

Taxable exchange

In general, a Canadian Holder will realize a capital gain (or capital loss) on the exchange of Notes or Bank Lender's Allowed Claims, as the case may be, for New Common Shares and/or cash equal to the amount by which the proceeds of disposition, net of any reasonable costs of disposition, exceed (or are exceeded by) the adjusted cost base to the Canadian Holder of such Notes or Bank Lender's Allowed Claims, as the case may be. A Canadian Holder's proceeds of disposition of Notes or Bank Lender's Allowed Claims, as the case may be, upon their exchange for New Common Shares will be an amount equal to the aggregate of the fair market value (at the time of the exchange) of the New Common Shares received on the exchange plus the amount of any cash received.

Consolidation

A Canadian Holder will not realize a capital gain or a capital loss as a result of the Common Share consolidation.

U.S. tax consequences

Test of "security"

A debt instrument with a term to maturity of less than five years generally does not qualify as a security while a debt instrument with a term to maturity of ten years or more generally does qualify as a security. The treatment as a security of a debt instrument with a term to maturity between five and ten years is unclear.

Securities exchange or recapitalization

If the Notes or Bank Lender's Allowed Claims are properly treated as securities for purposes of the corporate reorganization provisions of the Code, then, except as otherwise described herein, U.S. Holders will not recognize any gain or loss with respect to the exchange of Notes or Bank Lender's Allowed Claims for New Common Shares or cash in lieu of common shares in the Plan except that U.S. Holders will recognize taxable income to the extent that any such Common Shares are deemed to have been received in respect of accrued and unpaid interest on the Notes or Bank Lender's Allowed Claims, as applicable. Notwithstanding the foregoing, if the Notes or Bank Lender's Allowed Claims are exchanged for New Common Shares plus cash in an exchange treated as a "recapitalization" under the Code, a U.S. Holder that realizes gain on the exchange generally would recognize gain, for U.S. federal income tax purposes, equal to the lesser of: (i) the amount of gain realized, which would be the excess of fair market value of New Common Shares and cash received pursuant to the Plan, over the U.S. Holder's adjusted tax basis in the Notes and Bank Lender's Allowed Claims exchanged pursuant to the Plan; and (ii) the amount of the cash received pursuant to the Plan.

Non-securities exchange

If any of the Notes or Bank Lender's Allowed Claims are not properly treated as securities for U.S. federal income tax purposes, or if the Notes or Bank Lender's Allowed Claims are exchanged solely for cash pursuant to the Cash Election, then the exchange of those Notes or Bank Lender's Allowed Claims by a U.S. Holder in the Plan would be fully taxable, and such U.S. Holder would recognize gain or loss, for U.S. federal income tax purposes.

Early Consent Shares

A U.S. Holder's receipt of Early Consent Shares could be treated as separate consideration received for consenting to the exchange prior to the Consent Deadline, which would generally be taxable as ordinary income or as additional consideration received by the U.S. Holder as part of the exchange. The Corporation expects to treat the Early Consent Shares as additional consideration that will be treated for Code purposes as the New Common Shares received in exchange for the Notes or Bank Lender's Allowed Claims.

Overview

In March 2015, the Corporation became aware of potential violations of covenants under its secured credit agreements and entered into discussions with BCP III NAP L.P. ("Brookfield" - which is affiliated with Brookfield Asset Management) regarding a proposed recapitalization transaction aimed at significantly reducing the Corporation's debt and enhancing the Corporation's liquidity (the "Recapitalization"). Under the Recapitalization, occurring under a CBCA plan of arrangement (the "Arrangement"), debt of approximately $345.1 million will be exchanged for common shares, with further Common Share equity then being raised (also under the Arrangement) under a rights offering.

The Corporation

TSX-listed and formerly NYSE-listed CBCA corporation with 393M Common Shares outstanding. Trading of its Common Shares on the NYSE MKT was suspended in April 2015. Through an Ontario mine held in a CBCA subsidiary, it is one of the world's two primary palladium producers.

Brookfield Existing Loan

The book value of the Brookfield Existing Loan of $309.4 million, consists of the secured term loan of $273.4 million and an interim credit facility of $36.0 million. When originally issued in 2013, interest was payable at 15%, subsequently increased to 19%.

Debentures

Convertible debentures with a book value of $40.1 million.

Plan of Arrangement

• The Corporation will pay all accrued and unpaid interest under the senior secured loan from Brookfield;
• the Brookfield Existing Loan will be fully settled by the issuance by the Corporation to Brookfield of 18,214,401,868 Common Shares (representing 92% of the outstanding Common Shares upon completion of the Arrangement but prior to completion of the Rights Offering (described below));
• Debentureholders will be paid all accrued and unpaid interest on the Debentures;
• the Debentures (representing in aggregate $43,251,000) will be fully settled by the issuance by the Corporation to the Debentureholders of 1,187,895,774 Common Shares (representing 6% of the outstanding Common Shares upon completion of the Arrangement but prior to completion of the Rights Offering);
• outstanding restricted share units ("RSUs"), whether or not vested, will be transferred to the Corporation in exchange for the issue to the holder of the number of Common Shares as were subject to the RSUs
• the Common Shares then outstanding will be consolidated on a 1-for-400 basis (the "Share Consolidation");
• all outstanding options and warrants will be cancelled;
• NAP Newco Inc. ("Newco"), a subsidiary of the Corporation created for the sole purpose of effecting the Arrangement, will transfer all of its property to its sole shareholder and its sole shareholder shall assume all it liabilities and Newco shall then be dissolved;
• on the rights issuance date (10 days after the Effective Date of the Arrangement), each holder of New Common Shares will receive, for each New Common Share held, one (1) right to subscribe for 0.1693 New Common Shares (the "Rights") at a subscription price of $5.97 per New Common Share (the "Rights Offering");
• on the expiry date of the Rights, the Corporation shall issue New Common Shares to each holder of Rights upon the due exercise of the Rights and receipt of payment therefor; and
• Brookfield and a Debentureholder (Polaris Securites Inc.) representing approximately 54% of the aggregate principal amount of Debentures have agreed to subscribe for all New Common Shares not subscribed for in the Rights Offering (the "Backstopped Shares").

Following completion of the Arrangement but prior to the completion of the Rights Offering, existing Shareholders will own 2% of the outstanding Common Shares, and the former Debentureholders and Brookfield will hold 6% and 92%..

More on Rights Offering

The gross proceeds of the Rights Offering will be approximately $50 million. The TSX has conditionally approved their listing. Each Holder of Rights who has initially subscribed for all of the New Common Shares to which it is entitled pursuant to the basic subscription privilege may apply to purchase additional New Common Shares at the price equal to the Subscription Price for each additional New Common Share (collectively, the "Additional New Common Shares") with proration potentially occurring based on the number of respective number of Rights exercised by them under the Basic Subscription Privilege. Rights of Ineligible Holders (i.e., outside Canada and the U.S.) will be sold on their behalf.

Accounting treatment

Share capital of $728.6 million and $54.5 million will be recognized on the issuance of 18,214,401,868 and 1,187,895,774 Common Shares in exchange for the Brookfield Existing Loan and Debentures, respectively, assuming a price of $0.04 per Common Share, and a loss on the respective exchanges of $419.2 million and 7.4 million will be recognized.

Canadian tax consequences

Debenture exchange. The exchange by a Resident Debentureholder of Debentures for Common Shares pursuant to the Arrangement will result in a capital gain (or capital loss) to the Resident Debentureholder.

Consolidation

Will not result in a disposition of the Common Shares.

Rights

No amount will be required to be included in computing the income of a Resident Shareholder as a consequence of acquiring Rights (whose cost will be nil) pursuant to the Arrangement, and no gain or loss will be realized upon the exercise of Rights. New Common Shares acquired by a Resident Shareholder upon the exercise of Rights.

U.S. tax consequences

Debentures exchange. The exchange of Debentures for Common Shares followed by the exchange of Common Shares for New Common Shares and the subsequent distribution of Rights to holders of New Common Shares should be treated as an exchange of Debentures for New Common Shares and Rights. The qualification of the exchange of Debentures for New Common Shares and Rights as a tax-free "recapitalization" depends upon, under applicable case law principles, whether the Debentures constitute "securities." Based on their term to maturity at issuance, this should be the case so that, subject to PFIC rules, the exchange of Debentures for New Common Shares and Rights should qualify as a tax-free recapitalization for U.S. federal income tax purposes.

Common Share exchange

The exchange of Common Shares for New Common Shares and the subsequent distribution of Rights to holders of New Common Shares should be treated as an exchange of Common Shares for New Common Shares and Rights, and, subject to the PFIC rules, should qualify as a tax-free recapitalization for U.S. federal income tax purposes.

Market discounts

To the extent that the exchange of Debentures qualifies as a tax-free recapitalization for U.S. federal income tax purposes, a U.S. Holder should not be required to recognize any accrued but unrecognized market discount upon the exchange of its Debentures for New Common Shares and Rights, although it would be required to recognize any such discount upon a subsequent taxable disposition of its New Common Shares or Rights….

PFIC status

The Corporation believes that it presently qualifies, and expects to continue to qualify in the future, for the active commodities business exclusion, so that it will not be classified as a PFIC for the current and subsequent taxable years.

Tax Risk factors

None disclosed.

Overview. On December 22, 2015 the shareholders and relevant noteholders of the Company voted in favour of a B.C. Plan of Arrangement under which the Company’s U.S.$100 million of “Gold Notes” would be exchanged for new notes (the “2020 Debentures”) or (at each Noteholder’s option) common shares of the Company, and its U.S.$78 million of “Silver Notes” (which, like the Gold Notes, are in default) would be exchanged for the 2018 Debentures or (at the noteholder’s option) common shares. The Gold Notes bear cash interest at 10% p.a. and entitle the holder to receive cash on maturity, or earlier exercise of put rights, equal to the greater of their principal and the value of specified numbers of gold ounces, so that there is proportionate participation as the price of gold exceeds U.S.$1400 per ounce. The Silver Notes are somewhat similar. The 2020 Debentures have no gold appreciation feature, are convertible into common shares and bear cash interest at a rate of 6.00% per annum, payable monthly in arrears, unless the Company elects for any month to pay pay-in-kind (PIK) interest (i.e., through the issuance of more debentures) at a rate of 9.00% per annum; and somewhat similarly for the 2018 Debentures.

Overview of tax consequences of Restructuring Fee. The amount of Gold Notes which is exchanged for the equivalent principal amount of 2020 Debentures (except to the extent that the Gold Noteholders elect to receive common shares) includes not only their principal and accrued interest but also an increase (styled as an increase to their principal amount and labelled the “Restructuring Fee”) of $2 million. The Restructuring Fee will be income to the Gold Noteholders, whereas for Code purposes it instead represents additional proceeds (in the form of additional 2020 Debentures or common shares) to be received for the Gold Notes.

Overview of interest accrual and exchange consequences. The Debentures "may be" prescribed debt obligations, so that holders might be required to accrue interest at the higher PIK rate under Reg. 7000(2)(c) even if the Company chooses to pay at the lower cash rate. The PIK interest rate option will cause the Debentures to be subject to the U.S. OID rules (requiring inter alia the accrual of original issue discount based on the initial fair market value of the Debentures.) Although the exchange under the Plan of Arrangement of Gold or Silver Notes for shares occurs at the noteholder’s election, s. 51 non-recognition treatment is not considered to apply, and the note-for debenture exchanges are considered to also occur on a taxable basis (no s. 51.1). In the U.S., it is not clear that the exchanges would qualify as recapitalizations as contrasted to taxable exchanges given inter alia that the Debentures have relatively short-term maturities and, therefore, may not qualify as “securities.”

Gold Notes. On October 30, 2012, the Company issued 100,000 Gold Notes at a price of $1,000 principal amount of units for gross proceeds of $100 million. The Gold Notes bear interest at 10% per year, accruing and payable monthly in arrears and mature on October 31, 2017. The holder thereof will be entitled to receive the greater of: (i) the U.S. dollar financial equivalent of approximately 0.7143 ounces of gold per Gold Note plus any accrued interest in cash, and (ii) the U.S. dollar face amount of the Gold Note plus any accrued interest in cash. The holders of the Gold Notes also have the option (the “Put Option”) to require the Company to purchase up to $6.25 million aggregate face amount of the Gold Notes at the end of each three-month period beginning on the 25th month (November 2014) through the 57th month (July 2017) after the issue date, with principal being repaid in the greater of (i) up to US$6.25 million aggregate face amount of the Gold Notes, and (ii) the U.S. dollar financial equivalent of up to 6.25% of the Implied Gold Ounces underlying the Gold Notes.

Silver Notes. On August 11, 2011, the Company issued 80,000 Silver Notes at a price of $1,000 principal amount per Silver Note for gross proceeds of $80 million, but with the Company subsequently repurchasing for cancellation a total of 1,368 Silver Notes on the open market. The Silver Notes, due August 11, 2018, bear interest at a rate of 5% per year, payable semi-annually in arrears. A Holders of a Note will be entitled to receive the greater of the principal amount and the U.S. dollar equivalent of 66.7 ounces of silver per Silver Note, as determined using the average realized silver price by the Company over the six-month period immediately prior to any repayment or redemption of principal. This quantity of silver provides a benefit for silver prices over of $15 per ounce. The Company shall repay, on a pro rata basis, (a) 10%, 20%, 30% and the balance, of the total principal amount of the Silver Notes outstanding on August 11 of 2015, 2016, 2017 and 2018 (the maturity date), respectively, with such payment based on the greater of such principal amount, and the US dollar financial equivalent to 6.67, 13.34, 20.00 and 26.67 ounces of silver per Silver Note, respectively, together with all accrued and unpaid interest thereon.

Exchange under Plan of Arrangement. All accrued and unpaid interest on the Gold Notes plus the “Restructuring Fee” of $2 million will be added to the principal amount of the Gold Notes, and the Gold Notes’ the principal amount (as so increased) will be exchanged for the same principal amount of 2020 Debentures, provided that each Gold Noteholder may elect to convert some or all of their Gold Notes into Common Shares at a conversion price of $0.13 per Common Share. A similar exchange will of Silver Notes for 2018 Debentures will occur, except that the Silver Notes’ principal will not be increased by any fee amount.

Terms of the 2020 Debentures. Amount – The maximum aggregate principal amount is U.S.$100 million plus the addition described above for accrued and unpaid interest on the Gold Notes and the Restructuring Fee. The ultimate aggregate principal will depend on the number of Elected Common Shares issued in exchange for Gold Notes.

Interest. Will bear cash interest at a rate of 6.00% per annum, payable monthly in arrears, unless the Company elects for any month to pay pay-in-kind (PIK) interest at a rate of 9.00% per annum.

Maturity. January 2, 2020.

Conversion. Convertible, at the option of the holder at any time prior to the close of business on the earlier of the Maturity Date and the last business day immediately preceding the date fixed for redemption, at a conversion price of $0.20 per Common Share.

Cash Flow Sweep – A minimum of 75% of the Excess Cash Flow (defined so as to be reduced by exploration and capital expenditures) will be paid into a sinking fund, which will be applied towards repayment, repurchase (in the market, by tender, or by private contract, at any price, which, for greater certainty, may be below par) or other redemption, as the Company elects, of the 2020 Debentures.

Redemption – The 2020 Debentures may be redeemed for cash in whole or in part from time to time at the option of the Company on not less than 30 days’ notice, at a price equal to their principal amount (including any PIK 2020 Debentures issued) plus accrued and unpaid interest.

Change of Control. If a change of control of the Company occurs, each holder of 2020 Debentures will have the option to elect to put its 2020 Debentures to the Company for 101% of their face amount; provided that such put option shall not be available where the acquirer would have a credit rating of B or better on a pro forma post-acquisition consolidated basis and such acquirer agrees to guarantee all obligations of the Company under the 2020 Debentures

Security and Guarantees. The 2020 Debentures and the guarantees thereof by certain subsidiaries should be secured.

Terms of the 2018 Debentures. Amount. Their maximum aggregate principal amount is U.S.$78,632,000 and accrued and unpaid interest that is added to the principal amount of Silver Notes. The ultimate aggregate principal of the 2018 Debentures will depend on the number of Elected Common Shares issued in exchange for Silver Notes. Certain Silver Noteholders and insiders of the Company representing approximately 10% of the Silver Notes, have indicated their intention to exchange their Silver Notes into Elected Common Shares on the Exchange Date rather than into 2018 Debentures.

Interest. Bear cash interest at a rate of 1.00% per annum, payable monthly in arrears or (at the option of the Company for any month) PIK interest at a rate of 2.00% per annum.

Maturity. August 11, 2018.

Conversion. Same as 2020 Debentures, except conversion price of $0.25 per Common Share.

Redemption. Same as 2020 Debentures.

Payment in Common Shares on Maturity. On maturity, the Company may, at its option (and assuming no default) elect to satisfy its obligation to repay principal (including any PIK 2018 Debentures issued) plus accrued and unpaid interest amounts of the 2018 Debentures by issuing and delivering that number of Common Shares obtained by dividing the principal plus accrued and unpaid interest amounts of the outstanding 2018 Debentures by 95% of the volume weighted average trading price of the Common Shares on the TSX for the 20 consecutive trading days ending five trading days preceding the maturity date.

Change of Control. Same as for 2020 Debentures.

Security. Unsecured.

Guarantee. Expected to be guaranteed by certain subsidiaries of the Company.

Listing. The TSX has conditionally approved the listing of the 2020 and 2018 Debentures.

Canadian tax consequences. S. 214(7) interest. When a debenture issued by a person resident in Canada is assigned or otherwise transferred by a non-resident person to a person resident in Canada (which would include a conversion of the obligation or payment on maturity), the amount, if any, by which the price for which the obligation was assigned or transferred exceeds the price for which the obligation was issued is deemed to be a payment of interest on that obligation made by the person resident in Canada to the non-resident (an "excess"). The deeming rule does not apply in respect of certain "excluded obligations", although it is not clear whether a particular convertible debenture would qualify as an "excluded obligation". If a convertible debenture is not an "excluded obligation", issues that arise are whether any excess would be considered to exist, whether any such excess which is deemed to be interest is "participating debt interest", and if the excess is participating debt interest, whether that results in all interest on the obligation being considered to be participating debt interest. The CRA has recently stated that no excess, and therefore no participating debt interest, would in general arise on the conversion of a "standard convertible debenture." The Debentures should generally meet the criteria set forth in the CRA's recent statement.

Exchange. The exchange by a Resident Noteholder of Notes for Debentures or Elected Common Shares would result in a capital gain or capital loss to the Resident Noteholder. No formal valuation of the Debentures has been sought, although the trading price of Debentures may be a reference price for these purposes. Certain jurisprudence can be interpreted as implying that a gain arising on the exchange of Notes for Debentures or Elected Common Shares may be treated as equivalent to interest and should be included in computing the Resident Noteholder's income as interest. The Company believes that the better view is that this interpretation should not apply.

Prescribed debt obligation rules. It is possible that the Debentures may be prescribed debt obligations. These rules could require Resident Noteholders to include in income on an accrual basis up to the maximum possible interest applicable to Debentures for each taxation year even if such maximum amount is not actually received or receivable in the taxation year.

Restructuring Fee. While the treatment of the Restructuring Fee is not entirely clear, a Resident Noteholder who is paid the Restructuring Fee will generally be required to include its amount in computing income in the year of receipt.

U.S. tax consequences. Restructuring Fee. The Company intends to take the position, to the extent necessary, that the Restructuring Fee is additional consideration in the exchanges and not a separate fee for Code purposes. As such, a U.S. Holder will not recognize any income as a result of the receipt of the Restructuring Fee and the additional principal amount will be treated as part of the 2020 Debentures and 2018 Debentures, as the case may be, received in the Exchanges and the additional Common Shares received will be treated as having been received in the Share Exchange.

Exchange of notes recognized. The exchange of the Gold Notes and Silver Notes Exchange is believed to constitute a "significant modifications" of the Gold Notes and Silver Notes, so that they will be treated as an "exchange" under the U.S. Regulations.

Taxable exchange or recapitalization. An exchange for shares or an exchange that is treated as a significant modification of the Gold Notes or Silver Notes, will be treated as a disposition of such Gold Notes for 2020 Debentures or Silver Notes for 2018 Debentures in what is generally a taxable transaction unless the exchange qualifies as a "recapitalization" for U.S. federal income tax purposes. For an exchange of Gold Notes to qualify as a recapitalization, both (i) the Gold Notes and (ii) the 2020 Debentures must be treated as "securities" under the relevant provisions of the Code. Debt instruments with a term of ten years or more generally have qualified as securities, whereas debt instruments with a term of less than five years generally have not qualified as securities. Because the 2018 Debentures and the 2020 Debentures will have an initial term of less than five years but both the Gold Notes and the Silver Notes had an initial term of greater than five years but less than ten years, it is unclear whether any of the Gold Notes, Silver Notes or Debentures will qualify as securities. If either the Gold Notes or the 2020 Debentures were not treated as securities, the Exchange of Gold Notes would be taxable to U.S. Holders.

Issue price. The Gold Notes and Silver Notes are publicly traded and the 2020 Debentures and 2018 Debentures will likely be considered “publicly traded,” so that the issue price of the Debentures will be equal to their respective fair market values on the date of the exchange.

Treatment of Cash and PIK Interest as OID. Because the Debentures provide the Issuer with the option to pay PIK interest in lieu of paying cash interest, no stated interest payments on the Debentures will be qualified stated interest for Code purposes (even if paid in cash). As a result, the Debentures will be treated as issued with OID (see below). The increase in the principal amount of the Debentures or the issuance of new Debentures in the amount of the PIK interest thereon will generally not be treated as a payment of interest. Instead, the applicable Debenture and any PIK Debentures issued in respect of PIK interest thereon are treated as a single debt instrument under the OID rules.

Original Issue Discount. Each series of Debentures will be treated as issued with OID in an aggregate amount equal to the difference between (i) the total payments of principal and stated interest on the applicable Debentures and (ii) their “issue price” as described above. A U.S. Holder generally must include OID in gross income (as ordinary interest income) as the OID accrues, in advance of the receipt of cash attributable to such OID. In determining the yield to maturity and the amount of OID attributable to each accrual period, the Company will assume that all stated interest on the Debentures will be payable in cash (rather than PIC interest. If the Company pays PIK interest at any time, the Debentures will be treated solely for purposes of recomputing the OID accruals going forward, as if the Debentures were retired and reissued for their then adjusted issue price. The yield to maturity of the Debentures will be recalculated by treating the amount of the PIK interest the Company elects to pay (and of any prior interest that was paid in the form of PIK interest) as a payment that will be made on the maturity date of such Debentures.

PFIC rules. The Company believes it is not currently a PFIC and does not expect to become one.

Overview

TransAlta currently has five series of Preferred Shares outstanding (Series A, B, C, E and G) which are trading at a substantial discount to the $25.00 price at which they originally were issued. TransAlta is proposing a CBCA Plan of Arrangement under which the holders of each series would exchange each of their current shares for a fraction of a new series of preferred shares (also with a redemption amount of $25.00 per share). These Series 1 Preferred Shares are expected to trade closer to $25.00 on the basis of more favourable dividend terms, so that TransAlta anticipates that the preferred shareholders’ holdings will trade higher even though there would be a reduction in the redemption amount of their shareholdings (see the table further below). The preferred shareholders are given the option of having their exchange occur on a taxable basis (rather than on a non-disposition basis under s. 51) by permitting them to elect to have each share exchanged for a “Redemption Note,” which would then be immediately exchanged under the Plan of Arrangement for the proffered fraction of a Series 1 Preferred Share.

Taxable exchange under the Arrangement

Where a Holder has elected to exchange a Preferred Share for a Series 1 Preferred Share under the Arrangement on a taxable basis, such Preferred Share will first be redeemed by the Corporation in exchange for the issuance by the Corporation to the Holder of a demand promissory note (a Redemption Note). Immediately following the redemption of a Preferred Share and the issuance of the Redemption Note in exchange therefor, the Holder will, as a step in the Arrangement, transfer the Redemption Note to the Corporation in exchange for the issuance by the Corporation to the Holder of a Series 1 Preferred Share. In the case of an Electing Series A Shareholder, the Holder will receive a Redemption Note with a principal amount of $13.25 for each Series A Share held by the Holder and, as a subsequent step, the Redemption Note will be transferred to the Corporation in exchange for 0.530 of a Series 1 Preferred Share. The same exchanges will occur for electing holders of the other series, but on the basis of the following parameters:

• Series B Shares: Redemption Note - $13.75; 0.550 of a Series 1 Preferred Share;
• Series C Shares: Redemption Note - $17.625; 0.705 of a Series 1 Preferred Share;
• Series E Shares: Redemption Note - $19.75; 0.790 of a Series 1 Preferred Share; and
• Series G Shares: Redemption Note - $20.50; 0.820 of a Series 1 Preferred Share.

Tax-deferred exchange under the Arrangement

Unless the Holder has elected to exchange a Preferred Share of a particular series on a taxable basis (see above), such Holder will exchanges its Preferred Shares directly for Series 1 Preferred Shares on the basis of the same exchange ratios described above.

Benefits of Arrangement

TransAlta is expecting that the reduction in the carrying value of the Preferred Shares on its balance sheet resulting from the Arrangement, will improve rating agency credit ratios based on the equity treatment given to the Preferred Shares, and expects that the Series 1 Preferred Share will trade closer to their “Issue Price” of $25.00, given the initial dividend rate attributable to the Series 1 Preferred Share, the minimum floor feature, the redemption price and the improved credit profile of TransAlta upon completion of the Arrangement. The reset spread for the Series 1 Preferred Shares (as described below) is 529 basis points, which compares favourably to the reset spreads for the Preferred Shares that range from 369 basis points to 463 basis points (adjusted to give effect to the applicable exchange ratio), representing a 14% to 43% increase depending on the series. This reset spread is added to the Government of Canada Yield or quarterly T-Bill rate at the time of reset to determine subsequent preferred share dividends.

Dividend rights of Series 1 Preferred Shares

The holders of the Series 1 Preferred Share will be entitled to receive, as and when declared by the Board, fixed cumulative preferential cash dividends, payable quarterly, equal to ¼ of the “Annual Fixed Dividend Rate” for such “Subsequent Fixed Rate Period” by $25.00 (or of the equivalent of $1.625 annually for the period up to December 31, 2021). The Subsequent Fixed Rate Periods occur every five years commencing after December 31, 2021 (with the “Fixed Rate Calculation Date” occurring 30 days before each such date). On each Fixed Rate Calculation Date, the Corporation shall determine the Annual Fixed Dividend Rate for the ensuing Subsequent Fixed Rate Period, which will be the greater of 6.50% and the then current yield on 5-year GOC bonds plus 5.29%.

Redemption right of Series 1 Preferred Shares

On December 31, 2021, and on December 31 in every fifth year thereafter, the Corporation may, at its option, redeem all or any part of the Series 1 Preferred Share for $25.00 plus all accrued and unpaid dividends thereon.

Conversion right of Series 1 Preferred Shares

The Series 1 Preferred Share shall not be convertible prior to December 31, 2021. Holders of Series 1 Preferred Share shall have the right (subject to specified restrictions) to convert on each Series 1 Conversion Date their Series 1 Preferred Share into Series 2 Preferred Shares on a one-for-one basis. The Series 2 Preferred Shares will bear a floating quarterly dividend yield equal to the 90-day T-Bill rate (as reset at the beginning of each quarter) plus 5.29%.

Stated capital of Series 1 Preferred Shares

The amount set forth in the stated capital account maintained by the Corporation for the Series 1 Preferred Share immediately after the exchanges will be reduced by an amount that results in such stated capital account being equal to the product of: (A) the number of issued and outstanding Series 1 Preferred Share immediately after the exchanges; and (B) $25.00.

S. 191.2 election

The terms of the Series 1 Preferred Share require the Corporation to make the necessary election under Part VI.1 of the Tax Act.

Arrangement approval on series-by-series basis

If any one of the Arrangement Resolutions for a particular series is not approved by the Preferred Shareholders of the applicable series, then they will not participate in the exchange.

Canadian tax consequences

No deemed divided on exchange

Provided that the paid-up capital in respect of each Preferred Share as computed for purposes of the Tax Act exceeds the fair market value of the Redemption Note issued on redemption thereof, a Holder will not generally recognize a taxable dividend on the redemption of the Preferred Share held by such Holder. The Corporation has advised that the paid-up capital in respect of each Preferred Share of a particular series is expected to be $25.00, which amount is expected to exceed the fair market value of any Redemption Note issued to a Holder on redemption of any such share. Accordingly, no taxable dividend is expected to arise.

Taxable exchange under the Arrangement

A Holder will generally be considered to have disposed of such Preferred Share for proceeds of disposition equal to the fair market value of any Redemption Note issued on redemption thereof.

Tax-deferred exchange under the Arrangement

Unless the Holder has elected to exchange a Preferred Share of a particular series on a taxable basis (see below), a Holder that exchanges such Preferred Share for a Series 1 Preferred Share under the Arrangement will be deemed to have disposed of such Preferred Share for proceeds of disposition equal to the Holder's adjusted cost base of such Preferred Share.

Conversion to Series 2 Preferred Shares

The conversion of Series 1 Preferred Shares of a particular series into Series 1 Preferred Shares of a different series (including the conversion of Series 1 Preferred Shares into Series 2 Preferred Shares) will not generally constitute a disposition of property.