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Company / Corporate / Compliance

Directors and Business Rescue in the Time of COVID-19

By | Business, Company / Corporate / Compliance

“A stitch in time saves nine” (wise old proverb)

The COVID-19 pandemic and the resultant lockdown have opened up new avenues of profit for some businesses, but they have also subjected many others to the spectre of business failure. 

Unfortunately we can expect the level of bankruptcies to surge for some time to come, and the domino effect will multiply the numbers until our economy turns the corner.

If financial distress looms for your own company, bear in mind the very onerous duties imposed on directors by the Companies Act. One of those duties is to avoid any form of “reckless trading” or “trading in insolvent circumstances”, and if you drop the ball on that one you risk personal liability, claims for damages, and even criminal prosecution.

What action should you take? There is a lot at stake here so specific professional advice is indispensable, but it is essential to face realities and to take decisive action quickly. Your legal options are likely to be either liquidation or business rescue. Let’s compare them…

Business rescue v liquidation

Liquidation: If your company is terminally ill you will probably have no option but to put it out of its misery by applying for liquidation. In that event a liquidator is appointed to oversee the winding-up of the company, to sell its assets and to distribute the net proceeds to creditors. Liquidation’s big advantage is in providing an orderly winding up of the company’s affairs, but there will be few winners emerging from the process.

All stakeholders are likely to lose out in a liquidation scenario. Shares become worthless, you lose your directorship, employees lose their jobs and, although they have preferent claims for outstanding pay, leave etc, these could well be worthless. Creditors holding some form of security aside, other creditors (which would include you if you have a loan account) are left with concurrent claims – which are probably worthless too. 

To top all that off, if you signed suretyship for any claims, you will be personally liable for them.

Business rescue: Business rescue on the other hand is designed to restructure the company’s affairs and business “in a manner that maximises the likelihood of the company continuing in existence on a solvent basis or, if it is not possible for the company to so continue in existence, results in a better return for the company’s creditors or shareholders than would result from the immediate liquidation of the company.”

Either way all stakeholders stand to benefit, including you as a director, shareholder and/or loan account creditor. Your staff have a better chance of keeping their jobs, suppliers have a better chance of retaining your company as an ongoing customer, and the economy benefits from avoiding another business failure (SARS in particular will be happy to retain your company as a taxpayer!).

The success rate for business rescues is not high, but even if it is partially successful it is likely to be better than liquidation. 

There have also been concerns expressed about the costs of business rescue, and although these concerns have been disputed, cost is perhaps a factor to be put in the balance with all the other factors mentioned above when deciding between the two options.

How does it work?

In a nutshell (this is of necessity just a brief overview of what can be a very complex subject) –

  • Normally you would voluntarily place the company into business rescue with a board resolution; alternatively an outside stakeholder can apply for a court order (which you could oppose). 
  • A business rescue practitioner (often referred to as a “BRP”) is then appointed to take full management control of the company in substitution for the existing board and management, and to investigate the company’s affairs in order to “consider whether there is any reasonable prospect of the company being rescued”. The company is in the interim protected from legal action by creditors via a moratorium.
  • As a director you “must continue to exercise the functions of director, subject to the authority of the practitioner”, plus you have “a duty to the company to exercise any management function within the company in accordance with the express instructions or direction of the practitioner, to the extent that it is reasonable to do so”. In other words, you must assist and cooperate with the BRP as required.
  • The BRP convenes a first meeting of creditors to advise whether there is a reasonable prospect of rescuing the company.
  • If rescue seems feasible the BRP will then formulate a business rescue plan and present it to another meeting of creditors for consideration and voting. 
  • If the business rescue plan is adopted and successfully implemented, the company is returned to the marketplace as a viable business. 
  • If it turns out that there is no prospect of rescue or if the business rescue plan is rejected without any extension of the business rescue proceedings, the court can convert the rescue proceedings into a full liquidation. It can also in some circumstances set aside the business rescue resolution or court order.

Timing is everything!

“A stitch in time” really does make sense here. Your chances of rescuing the business are statistically (and logically) much greater if you take action as quickly as possible after the threat of financial distress first rears its ugly head. 

As to the legal position, our courts have put it this way: “… it is clear that the business rescue procedure is intended to be used at the earliest possible moment, i.e. when a company is showing signs of pending insolvency, but where it has not yet reached the stage of actual insolvency.”

Moreover the longer you leave it, the more likely you are to find yourself personally in trouble with the law and the higher the chance of all stakeholders losing everything.

Bear in mind that access to financing will be critical here, as will active support from major creditors both during the business rescue proceedings and in the longer term. 

Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your professional adviser for specific and detailed advice.

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Directors: Reckless Trading and Personal Liability in the Time of Coronavirus

By | Company / Corporate / Compliance

“Better safe than sorry” (wise old proverb)

The COVID-19 pandemic and its ongoing economic fallout have left many businesses struggling with cash flow and even viability challenges. 

The result is that an increasing number of companies are either trading in insolvent circumstances, or in grave danger of doing so.

Reckless trading and your risk of personal liability

To quote from the Companies Act (section 22(1)): “A company must not carry on its business recklessly, with gross negligence, with intent to defraud any person or for any fraudulent purpose.” 

And per section 77(3) any director “is liable for any loss, damages or costs sustained by the company as a direct or indirect consequence of the director having … acquiesced in the carrying on of the company’s business despite knowing that it was being conducted in a manner prohibited by section 22(1)”. 

That’s a lot of potential for liability and it demands very careful management at any time – but perhaps even more so in these times of uncertainty and heightened economic risk.

What is “reckless trading”?

As the Supreme Court of Appeal has put it: “If a company continues to carry on business and to incur debts when, in the opinion of reasonable businessmen, standing in the shoes of the directors, there would be no reasonable prospect of the creditors receiving payment when due, it will in general be a proper inference that the business is being carried on recklessly.” A lot of companies must currently be in danger of falling into that net.

Who is at risk? Not just directors… 

The Companies Act defines a “director” for the purposes of personal liability as including an “alternate director”, a “prescribed officer” (which brings many senior managers into the net), a “person who is a member of a committee of a board of a company, or of the audit committee of a company”, “irrespective of whether or not the person is also a member of the company’s board”.

Does the CIPC Notice protect you?

On 24 March 2020 the Companies and Intellectual Property Commission (CIPC) issued a formal Notice to the effect that it will not exercise its power to issue a compliance notice to a company “which is temporarily insolvent and still carrying on business or trading” but only where “it has reason to believe that the insolvency is due to business conditions, which were caused by the COVID-19 pandemic.” That practice, said the CIPC, will lapse 60 days after the declaration of a national disaster has been lifted. 

That announcement has been interpreted by some commentators as “allowing” reckless trading by companies, and indeed it may well be that at least some directors under attack will give that defence a try. 

But that is not what the CIPC Notice actually says, and the more cautious view is that the Companies Act’s prohibition against reckless trading remains intact and that all that has changed is a temporary waiver by CIPC of its power to enforce statutory compliance.

So what should you do if your company is struggling?

We are in uncharted territory here with the pandemic, and on the principle of “better safe than sorry”, this is no time to take chances. If your company is financially distressed or the prospect of trading in insolvent circumstances looms, take professional advice immediately on how best to proceed. Business rescue or even liquidation may be unavoidable or you may be advised to pursue another route after full good-faith discussion with all role-players, but whatever the outcome quick and decisive action is critical.

Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your professional adviser for specific and detailed advice.

© LawDotNews

How to Stop an Ex-Director from Competing With You

By | Company / Corporate / Compliance, Employment and Labour Law

“…the default position is that an executive director or a senior employee may not carry on business activities which fall within the scope of his company’s business during the time when he serves as director or works as employee.  The default position however changes on resignation.” (Extract from judgment below)

What happens if relations between you and your fellow company directors sour to the extent that a director leaves? Can he or she immediately open up a new business in direct competition to you? 

A recent High Court decision both addresses that knotty question, and highlights a quick and easy solution.

Fishing for business: “Big Catch” claims R24m

  • Big Catch Fishing Tackle (Pty) Ltd markets and hosts fishing and fly fishing tours in both local and international waters.
  • The company’s two directors and shareholders fell out, culminating in one director accusing the other of serious breaches of his duties as director. 
  • Although hotly disputing any wrongdoing he resigned his directorship (under, he says, duress and coercion). He remains a shareholder. 
  • Big Catch is now suing the ex-director for some R24m in “past” and “future” damages, relying on disputed claims of improper or unlawful conduct which include the channeling away of business from Big Catch, misappropriating stock, diverting payment of commissions and acting recklessly and without authority. Whether or not these allegations will be proved eventually will only be determined when the main case finally goes to trial. 
  • What is of interest to us at this stage is Big Catch’s interim application to the High Court to interdict the ex-director and his new business (Upstream Fly Fishing) from competing with Big Catch.

Ex-director off the hook 

  • Directors have a range of fiduciary duties towards their companies. They must at all times act in good faith and in the best interests of the company. They must avoid conflicts of interest. They cannot compete with the company nor make secret profits. “The default position”, as the Court in this case put it, “is that an executive director or a senior employee may not carry on business activities which fall within the scope of his company’s business during the time when he serves as director or works as employee.” 
  • Big Catch had to convince the Court that those duties survive resignation unchanged. But, held the Court, that “default position” changes on resignation and “the director or employee does not commit a breach of his fiduciary duty merely because he takes steps to ensure that, on ceasing to be a director or employee, he can continue to make a living even by setting up a business in competition with his former company or by joining a competitor and then pursuing opportunities similar in nature to those targeted by his former company.”
  • Although a director’s fiduciary duty does indeed survive departure, “the content of that duty does not remain the same … The duty will only be breached after resignation if it involves the use of confidential information or violates an interest of the company that is worthy of protection in some other way” (emphasis supplied). 
  • In other words, a company cannot simply say “our ex-director is breaching an ongoing fiduciary duty towards us”, it must go further and actively prove a right to protection. Big Catch in this case being unable to make out its case, the Court dismissed the application with costs and the ex-director is off the hook, at least for now.

Big Catch’s big mistake – no restraints of trade

Round 1 therefore to the ex-director; a victory made easier by Big Catch’s failure to put restraints of trade in place for all its directors and senior employees. 

As the Court put it “…in the absence of a restraint of trade, the onus shifts to the director’s former company to justify the interdict both in law and in fact” and “…a company that wishes to prevent a director or employee from competing with it after resignation should either do so by way of imposing a reasonable restraint of trade or it will have to persuade a Court that it has an interest worthy of protection, such as confidential information, client lists or connections, that justifies an interdict.”

Bottom line – make protecting your company easy with restraints of trade!

Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your professional adviser for specific and detailed advice.

© LawDotNews

How to Stop an Ex-Director from Competing With You

By | Company / Corporate / Compliance, Employment and Labour Law

“…the default position is that an executive director or a senior employee may not carry on business activities which fall within the scope of his company’s business during the time when he serves as director or works as employee.  The default position however changes on resignation.” (Extract from judgment below)

What happens if relations between you and your fellow company directors sour to the extent that a director leaves? Can he or she immediately open up a new business in direct competition to you? 

A recent High Court decision both addresses that knotty question, and highlights a quick and easy solution.

Fishing for business: “Big Catch” claims R24m
  • Big Catch Fishing Tackle (Pty) Ltd markets and hosts fishing and fly fishing tours in both local and international waters.
  • The company’s two directors and shareholders fell out, culminating in one director accusing the other of serious breaches of his duties as director. 
  • Although hotly disputing any wrongdoing he resigned his directorship (under, he says, duress and coercion). He remains a shareholder. 
  • Big Catch is now suing the ex-director for some R24m in “past” and “future” damages, relying on disputed claims of improper or unlawful conduct which include the channeling away of business from Big Catch, misappropriating stock, diverting payment of commissions and acting recklessly and without authority. Whether or not these allegations will be proved eventually will only be determined when the main case finally goes to trial. 
  • What is of interest to us at this stage is Big Catch’s interim application to the High Court to interdict the ex-director and his new business (Upstream Fly Fishing) from competing with Big Catch.
Ex-director off the hook 
  • Directors have a range of fiduciary duties towards their companies. They must at all times act in good faith and in the best interests of the company. They must avoid conflicts of interest. They cannot compete with the company nor make secret profits. “The default position”, as the Court in this case put it, “is that an executive director or a senior employee may not carry on business activities which fall within the scope of his company’s business during the time when he serves as director or works as employee.” 
  • Big Catch had to convince the Court that those duties survive resignation unchanged. But, held the Court, that “default position” changes on resignation and “the director or employee does not commit a breach of his fiduciary duty merely because he takes steps to ensure that, on ceasing to be a director or employee, he can continue to make a living even by setting up a business in competition with his former company or by joining a competitor and then pursuing opportunities similar in nature to those targeted by his former company.”
  • Although a director’s fiduciary duty does indeed survive departure, “the content of that duty does not remain the same … The duty will only be breached after resignation if it involves the use of confidential information or violates an interest of the company that is worthy of protection in some other way” (emphasis supplied).
  • In other words, a company cannot simply say “our ex-director is breaching an ongoing fiduciary duty towards us”, it must go further and actively prove a right to protection. Big Catch in this case being unable to make out its case, the Court dismissed the application with costs and the ex-director is off the hook, at least for now.
Big Catch’s big mistake – no restraints of trade

Round 1 therefore to the ex-director; a victory made easier by Big Catch’s failure to put restraints of trade in place for all its directors and senior employees. 

As the Court put it “…in the absence of a restraint of trade, the onus shifts to the director’s former company to justify the interdict both in law and in fact” and “…a company that wishes to prevent a director or employee from competing with it after resignation should either do so by way of imposing a reasonable restraint of trade or it will have to persuade a Court that it has an interest worthy of protection, such as confidential information, client lists or connections, that justifies an interdict.”

Bottom line – make protecting your company easy with restraints of trade!

Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your professional adviser for specific and detailed advice.

© LawDotNews

All Companies: Prepare for the Mandatory New CIPC Compliance Checklist

By | Company / Corporate / Compliance

The CIPC (Companies and Intellectual Property Commission) has announced that its new “compliance checklist” requirement, voluntary until now, becomes mandatory for all companies and close corporations from 1 January 2020.

You must complete the checklist before submitting your annual return. So firstly check when your due date for the annual return is – for companies you will have 30 business days from the day after its date of registration, whereas for close corporations you will have the two months from the first day of the registration month until the end of the following month.

Then log on to the CIPC website and find what CIPC calls its “new user-friendly service” under “e-Services for Customers”. 

If you run into problems take professional advice immediately. You really don’t want to drop the ball on this! If you can’t complete the compliance checklist, you can’t submit your annual return, which will put your company at risk of deregistration because CIPC assumes that your company has stopped doing business. 

Deregistration means your company ceases to exist, with drastic negative consequences for your company, for its business operations, and for you personally.

Directors at War and the Liquidation Option – A Tale of Sibling Rivalry

By | Company / Corporate / Compliance, Insolvency / Liquidation

“Family quarrels are bitter things. They don’t go according to any rules” (F. Scott Fitzgerald)

A company’s directors have both the power and the duty to manage the company’s affairs for its benefit.

When two or more directors are in place, it’s perhaps natural for the occasional disagreement to arise between them. Indeed, regular expression of a variety of different viewpoints and ideas can make for a strong, dynamic board and business. Provided, that is, that the directors are in the end result still able to agree on the decisions vital to their company’s continued operations. 

What happens though when disagreements and disputes escalate and make it impossible to continue running the business? Typically, communications break down to the extent that decision-making is paralysed. First prize will of course always be an amicable settlement – through formal mediation perhaps, or negotiation to buy out a dissenting director’s shareholding. But if these attempts fail, the company is in big trouble. 

Fortunately our law offers you an effective remedy in the form of the “just and equitable” liquidation. It comes with its own risks and can be costly, so it’s often regarded as a last-resort option (ask your lawyer for advice on the various other remedies that may be available to you), but it works. A recent High Court decision illustrates…

Sister v brothers in a deadlocked development company 
  • A sister and her two brothers owned, through their trusts, equal shares in a farm (partially inherited from their father and partially purchased from their uncle’s deceased estate). 
  • They were also the three directors (and, again through trusts, the equal shareholders) of a company formed to subdivide, develop and sell residential plots on parts of the farm.  
  • The company operated successfully and profitably for many years, paying substantial dividends to the shareholders, and has always been and remains solvent. 
  • Trouble began brewing it seems several years ago, primarily between the sister and the brother in charge of the day-to-day running of the company’s business.  Serious disagreements arose around an unhappy saga of sibling fallout – including the disputed existence of a partnership, alleged fraudulent stripping of over R6m by the brothers, and a litany of purported personal and familial abuse. 
  • All these allegations were hotly denied, although an undertaking by the brothers to not “emotionally abuse” their sister in a settlement agreement at one point clearly indicated to the Court that the relationship breakdown was not confined to the siblings’ professional affairs. The relationship between the directors and shareholders was, said the Court, “that of partners in a family context”. 
  • The sister applied for the liquidation of the company on the grounds that it was “just and equitable”. This is a procedure provided in the Companies Act for a court to have the discretion – even though a company is solvent – to liquidate it in order that an independent liquidator can take over. 
  • The brothers opposed the application, claiming that there was no deadlock in the functioning of the company or between the directors and shareholders, but the Court disagreed. Its order liquidating the company, and its reasons for doing so, provide a useful summary of how this particular law works in practice…
3 grounds on which to wind up a solvent company

The Companies Act allows a court to liquidate a solvent company on application by director/s or shareholder/s on any of three grounds –   

  1. “The directors are deadlocked in the management of the company, and the shareholders are unable to break the deadlock, and 
    • Irreparable injury to the company is resulting, or may result, from the deadlock; or 
    • The company’s business cannot be conducted to the advantage of shareholders generally, as a result of the deadlock;
  2. The shareholders are deadlocked in voting power, and have failed for a period that includes at least two consecutive annual general meeting dates, to elect successors to directors whose terms have expired; or
  3. It is otherwise just and equitable for the company to be wound up.”

That last “just and equitable” ground gives courts a wide discretion to reach a decision based on all the facts of each particular case. The Court in this matter found that the involvement of all the directors in the business had effectively come to a standstill and took into account the facts that there had not been a directors’ meeting since 2014 plus the sister had refused to sign the latest financial statements. 

It concluded that “the directors do not communicate and there is clearly immense personal animosity between them, and a lack of trust and confidence”, making it difficult to see how the company could continue its business. The lack of substantiation provided by the sister to back up some of her disputed allegations did not, said the Court, detract “from the fact of the breakdown in their relationship, and the lack of trust and confidence”.

It was therefore just and equitable that the company be wound up. 

Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your professional adviser for specific and detailed advice.

© LawDotNews

Business Rescue: Are Your Suretyships Enforceable? A R5.5m Lesson for Directors and Creditors

By | Company / Corporate / Compliance, Insolvency / Liquidation, Litigation

“Some people use one-half their ingenuity to get into debt, and the other half to avoid paying it” (George Prentice, newspaper editor and author)

You are owed a lot of money by a company that goes into business rescue. The business rescue plan provides for creditors like you to accept a dividend of only a few cents in the Rand in settlement of your debt. You stand to lose heavily.

But perhaps there’s hope yet – a director with assets has signed personal suretyship. Can the director now say “sorry, you adopted the business rescue plan so your claim no longer exists”, and refuse to pay you? 

The directors’ defence
  • A creditor was owed R6.5m for the lease of mining equipment to a company which was placed under business rescue. In terms of a business rescue plan approved by the creditor it was paid only a portion of its claim, losing its right to claim anything further from the debtor company.
  • The two directors of the debtor had signed a deed of suretyship in terms of which they stood as co-sureties and co-principal debtors with their company for all amounts owing.
  • The creditor duly sued the directors for its shortfall of some R5.5m The directors’ defence was that they were not liable because – 
    • The suretyship entitled the creditor to go after them only for “any sum which after the receipt of such dividend/s or payment/s may remain owing by the Debtor.” (Own underlining). 
    • Nothing remained owing by the debtor which had been released from its debt by the business rescue plan.
  • In other words, argued the directors, nothing was owed by the debtor company, so they were liable for nothing. 

  • Not so, said the Court. That “would render the terms of the deed of suretyship nonsensical and militates against the very reason for a creditor obtaining security against the indebtedness of a debtor i.e. to mitigate the risk of the debtor being unable to fulfil its obligations due to inter alia business rescue.” The business rescue plan made no provision for the position of sureties and therefore “the liability of the sureties is in my view preserved.  And while the debt may not be enforceable against [the company], it does not detract from the obligation of the sureties to pay in the circumstances of this case.” In other words, a surety’s liability is unaffected by the business rescue unless the plan itself makes specific provision for the situation of sureties.
  • Bottom line – the directors must personally cough up the R5.5m (plus interest and costs).
Lessons for directors and creditors

The outcome here could have been very different had the wording of either this particular suretyship or the business rescue plan supported the directors’ defence.

Creditors – when securing your claim with a director’s suretyship check that you are fully covered in any form of business failure situation.  And ensure that a business rescue plan specifically provides that its adoption does not release sureties. 

Directors – when you sign personal surety understand exactly what you are letting yourself in for. And if you are unlucky enough to find yourself in the middle of a business rescue, actively manage your personal liability danger – particularly when it comes to the wording of the rescue plan.

Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your professional adviser for specific and detailed advice.

© LawDotNews