I would imagine that there are many company directors and shareholders who are wondering if there is light at the end of the tunnel of gloom that faces the South African economy. We were initially optimistic that the coronavirus would come and go and that it would soon be business as usual. This is not to be. Now, four months after the lockdown, the signs indicate that the effects of the coronavirus are going to be part of our lives for months to come.
Our economy was already in decline and the coronavirus has within in months shattered a fragile economy.
If you own a business which is not feeling the adverse consequences of the economic crisis, count yourself as extremely lucky. There are many people trying to trade through the crisis and by doing so may be increasing debt and may even be trading recklessly. Your intentions may be honorable and good in that you are trying to preserve a distressed business and reward loyal employees, but this does not necessarily mean that you have considered and taken the best options that are open to you.
I would encourage you to seek professional advice if you face a dilemma of this nature. In most instances, acknowledging the problem and acting swiftly in making the correct decision can result in benefits for the company, creditors, and employees. Do not take the risk of dinging the hole for your company any deeper.
What is a distressed company or business and what are some of the options open to its owner?
A distressed entity or company is one which during the forthcoming period of 6 months is unable to pay or is unlikely going to be able to pay its debts as they fall due or it appears to be reasonably likely that the company will become insolvent within the next 6 months.
These are some of the options open to the board of entity which is distressed:
- Try and trade out of the situation;
- Liquidate the entity; or
- Apply for business rescue.
The first option is a dangerous option as it can be held later that there was never any real possibly of turning the company around and this can be result in the directors being held personally liable for the company’s debt.
Section 214 of the Companies Act, 71 of 2008 (“Companies Act”) also makes it a criminal offence if a director acts or omits to act in a manner which is intended to defraud a creditor.
Section 22(1) of the Companies Act provides that a company must not carry on a business recklessly, with gross negligence, with intent to defraud any person, or for any fraudulent purpose.
Section 77(3)(b) of the Companies Act provides that any director of a company is liable for any loss, damages or cost sustained by a company as a direct or indirect consequence of the director:
- having acquiesced to the company carrying on despite knowing that it was being conducted in a manner prohibited by section 22(1) of the Companies Act; or
- being a party to an act or omission by the company despite knowing that the act or omission was calculated to defraud a company, creditor, employee, or shareholder or had any fraudulent purpose.
This does not mean, however, that a director who acts in good faith and in so doing contravenes these provisions, is without a defence. In terms of section 77(9) of the Companies Act, a court can relieve a director wholly or in part from any liability depending on the nature and circumstances of the contravention.
If you have determined that your company is in financial distress and you have chosen not to liquidate it what should you do?
The board of directors must meet and deliver a notice to each effected person referred to in section 129(7) of the Companies Act advising those people/entities why a resolution in terms of section129(1) to place the company under business rescue was not adopted or pass a resolution in terms of section 129(1) placing the company under business rescue. Business rescue is designed to give the company time to recover, restructure and consolidate its affairs with the help of an outside expert.
If this resolution is passed, then the board of directors is required to file the business rescue notice with the Companies and Intellectual Property Commission. We have professionals equipped and skilled to file this notice on your behalf.
A business practitioner will then be appointed with full managerial powers and control over the company and the board of directors will still function but always subordinate to the business rescue practitioner.
The business rescue practitioner must implement a business plan and can appoint new management team members. This business plan is then presented to creditors for ratification and if accepted the company continues to conduct business in the normal course and hopefully trade itself out of its predicament. If it is rejected, the court can set aside business recuse and convert it into a liquidation.
When considering whether to liquidate a company or place it under business rescue you should seek guidance from your accountant and/or attorney. These are some aspects that need to be considered:
- A liquidation of a company entails a High Court application which can be opposed by creditors or other interested parties and can be costly.
- Ultimately the company will cease to exist. All employees will lose their employment and assets of the company will be sold to pay the liquidators’ costs and settle or partly settle creditors’ claims. Not all creditors will be paid in full and those creditors who hold some form of security are likely to be preferred when it comes to payment.
- If you have loan accounts in the company which are not secured, these will be concurrent claims even if you are a director or shareholder.
Should you feel that you need advice to decide what the best course of action for your company is, please contact Madeleen Charsley on 041 506 3700.