Has BR in SA really brought about a company (debtor) friendly system that can compare with international best practice?
Looking back to when I started practicing in the world of insolvency (as far back as January 1991), all we had in South Africa for companies that were on the brink of insolvency or financial distress was in fact liquidation. In those years, we had little choice but to advise boards of companies that could not pay their debts, to apply for the liquidation of the entity, appoint a liquidator and proceed to sell off assets at fire sale liquidation values.
In those days, I recall that the biggest criticism was that concurrent creditors got very little out of the process, whereas secured creditors (mainly the financial institutions and banks) ended up taking most of the spoils, as they held security over the assets of the company (by way of notarial bonds, whether general or specific, or where they held cession of the book debts of the company).
So when one looks at Chapter 6 of the 2008 Companies Act and where we have come from since 2011, the option of business rescue has really been a breath of fresh air for South Africans and for the insolvency profession.
Gone are the days where we had a one-dimensional approach to insolvency with the only option being liquidation (or possibly an informal compromise). With the introduction of the business rescue mechanism, we now have the unique option (clearly in line with international jurisdictions) to appoint a supervisor / business rescue practitioner who can take control of a dire situation. Once appointed, the business rescue practitioner will be in a position to take control, consult with all stakeholders, particularly creditors, consider prejudicial contracts, liaise with customers, suppliers, employees and trade unions and work towards publishing a plan which delivers ultimately a better dividend for creditors than they would get in a liquidation.
Now when one looks at the book and the detailed analysis that I have done in critically looking at the rescue procedure, there is no doubt that South Africa now has a workable, dynamic and, in my opinion, an effectivemechanism to rescue financially distressed companies. The process allows one to take failing companies, restructure them within the confines of the Act and place these companies back into the South African economy. This must ultimately be good for the company, creditors, employees, obviously for the company itself and for the South African economy!
So, I think we are now well and properly aligned with international jurisdictions, and where we can safely say that all the tick boxes of rescue / restructuring practice that we see in international jurisdictions, have now reached the Southern point of Africa, and where we can safely say that we have a workable system which, for me, is very exciting. All the tick box common rescue themes which apply in international jurisdictions have found their way into Chapter 6. These include the ability to compromise debt, the ease of entry into the rescue process, the requirement and existence of an automatic stay of claims (moratorium), a system whereby a supervisor / practitioner can get properly involved in the restructuring of the company, where courts only get involved on an intermittent basis, where creditors, contractors (employees) and shareholders all have a role to play in the process, where there is a recognition that there is a need for post-commencement finance, where the supervisor / practitioner is obligated to deliver up a workable and understandable business rescue plan which can be put to the vote by all creditors and where there are systems in place which can result in dissenting creditors being forced to go along with the will of the majority and where, at the end of the day, there is a discharge of all creditors' claims for the benefit of the company going forward.
In years to come the South African rescue legislation will be a model, in my view, which will be at the forefront of restructuring practice (particularly on the African continent) and which will be consistently looked at by our international insolvency and restructuring counterparts and colleagues. It is a system which all of us can be proud of.
As I said earlier, going back to the early days of insolvency practice where liquidation was really the only option for insolvent / financially distressed companies, we really had a situation where concurrent creditors got very little out of the insolvency process. Secured creditors really did look to take the cream out of the insolvent company, particularly when most of the assets had been tied up by way of effective security mechanisms.
However, as is dealt with in the book, this "creditor-orientated" society began to shift post- the September 2008 financial crisis (the Global Financial Crisis). At that time, in South Africa, there was a recognised need for a new business rescue mechanism to deal with companies that were in financial distress. Coupled with international principles of a "fresh start" which gave one a sense that rather than grind a company down into extinction where concurrent creditors were left highly dissatisfied, there had to be an alternative which, in South Africa, could result in massive job retention and which enabled the financially distressed company to begin trading afresh without the disabling effects of massive and unmanageable debt.
The main driver for Chapter 6 and its rescue mechanism was the fact that job retention was perceived by the South African government to be a key aim of business rescue legislation. Employees in the business rescue process are elevated to an improved position (contrary to what you would see in a liquidation) in that job losses need only occur in the ordinary course of attrition and which must be in accordance with applicable labour laws. Further, any employee working for the company under business rescue is a deemed provider of post-commencement finance and would be preferred in a business rescue. Trade unions are affected persons and can actively become involved in business rescue proceedings.
With the failure of judicial management, what was left for the South African legislature in the 2008 Companies Act was to create a seismic shift away from a pro-creditor system to that which favoured the debtor, like we see in Chapter 11 proceedings in the United States Bankruptcy Code. The corporate law reform guidelines were published by the Department of Trade and Industry in May 2004 and from August 2005, the process of legislative drafting relevant to an amended Companies Act began. The first draft bill of the Companies Act was published in April 2006 and immediately, we as lawyers, became excited with the newly drafted business rescue legislation that appeared in the draft Companies Bill.
At the same time, we had the influence of the King III Report on Corporate Governance, the introduction of the National Credit Act 2005 and shortly thereafter the introduction of the Consumer Protection Act 2008. What we were seeing at that time in South Africa was a definitive shift away from the interests of creditors and where the legislature began focusing on the rights of the debtor, the consumer and, in turn, the financially distressed company.
In addition, the historical experience in South Africa, where a sequestration application had to reflect an advantage to creditors, had been deemed to be an archaic concept and one which was heavily criticised. The need to establish an advantage to creditors frustrated the ability of an insolvent person / individual to obtain the benefits of a sequestration / insolvency and where that individual could be placed in a position to commence afresh (wipe the debt slate clean) and trade on into the future.
So, by 2011, there was a marked shift away from looking after the needs of the creditor at all costs, to where focus became, for the first time, on a process to assist the struggling debtor and particularly the struggling debtor company. Prior to this period, conflicts between the interests of debtors and those of creditors were often decided on emotional grounds, where the debtor was always perceived to be delinquent and someone who could not be trusted.
With the commencement of the business rescue legislation in 2011, in my view, we reached the frontier of a major shift away from a creditor-friendly system to that of a debtor-friendly system. The counter-view is that business rescue remains a process which remains subject to the control of the creditors. After all, it is the creditors that vote in the plan at a 75% vote threshold. That may be so, but in my view looking at where we came from pre the 2008 Companies Act (and prior to 2011), we have taken a massive leap across the ocean (and where we are now closer to the US Chapter 11 system), and where we are seeing a significant shift in focus towards the needs and requirements of the financially troubled debtor.
WHAT DOES REASONABLE PROSPECT MEAN AND AT WHICH STAGE OF PROCEEDINGS SHOULD REASONABLE PROSPECT BE ABLE TO BE SHOWN (AND BY WHOM), HOW DID YOU DEAL WITH THIS ASPECT IN YOUR BOOK AND DO YOU BELIEVE THERE SHOULD BE A DIFFERENCE IN APPROACH IN COMPULSORY AND VOLUNTARY BR PROCEEDINGS (AS FAR AS REASONABLE PROSPECT IS CONCERNED) ?
So when you look at Chapter 8 of the book it sets out in concise terms the manner in which business rescue commences, whether it be by way of a voluntary commencement process (a section 129 resolution passed by the board of directors) or the compulsory commencement of business rescue (namely the Section 131 application to court brought by an affected party – creditors, shareholders, trade unions and employees).
In Chapter 8 of the book, I critically look at where in fact compulsory applications for business rescue occur in practice. In the main, business rescue applications to the High Court normally occur in a situation where a creditor has applied for the liquidation of a company and where an interested party or affected person, often the shareholder (as affected person), applies to court in an effort to stave off (or resist) a liquidation application and to convert the relief into one involving a business rescue and the appointment of a business rescue practitioner.
Now there are many cases dealing with the complexities of these intervention applications and in particular when one can intervene, with the leave of court, to persuade the judge that business rescue would be a better option for all stakeholders, particularly creditors. Once you are in front of a judge, it is a much harder task to persuade the court that business rescue would be a better outcome than what would occur in liquidation. All sorts of promises are often made in these applications where much is made of the "knight in shining armour" riding (on his horse) into the distressed company movie… offering cash, over-night solutions, offers of post-commencement finance … etc … all of which are aimed to persuade the court that business rescue must be the only option left for the company and where liquidation would only result in massive losses for all creditors and stakeholders.
Our courts have carefully looked at the thresholds of these intervention applications. In the early days we will see, particularly with reference to the cases I have dealt with in the book, how our judges and courts have specifically dealt with potential empty promises and where there is the weak and speculative hope of some future investment and success. These allegations have all been tested in quite a detailed fashion in many of the judgments that have come before the courts.
The courts have taken great care to analyse what is meant by "a reasonable prospect of rescue".
Certain applications are brought by creditors (as affected persons) where they apply to place their debtor into business rescue. These applications are in fact the exception, rather than the norm. The difficulty for these creditors is that they are not at the coal-face of the company and they have very little access to financial information which would support their application and where they are obligated to make out a case for a "reasonable prospect of rescue". Strangely enough, trade unions are the only affected person that can request a copy (through the CIPC) of a set of the financial statements of a company for "the purposes of initiating a business rescue process" (section 31 – access to financial statements or related information). We have not yet seen many instances where trade unions have in fact made use of this provision.
In the very early days, and in particular in the 2011 Southern Palace v Midnight Storm matter, Judge Eloff specifically contrasted the test in section 427 (the old judicial management test), where there was a reference to a "reasonable probability", as opposed the test set out in to section 131(4) of the 2008 Companies Act which refers to a "reasonable prospect". The judge in the Southern Palace case was of the view that every matter should be considered on its own merits and emphasised that the application to court must set out sufficient detail relevant to the cause of the demise of the company's business and further emphasised the need for the application to court to propose (even at the highest level) a proper basis for a rescue plan that had a reasonable prospect of being sustainable. The judge was quite careful in stating that one should avoid prolonging the agony by substituting one debt for another, but rather provide "concrete and objectively ascertainable detail going beyond mere speculation" in respect of the reasonable prospect of success.
You can read about all of this in the book and, in particular, when one further looks at the 2012 Oakdene case where Judge Claassen (in the court-a-quo) delved quite deeply into what is meant by "reasonable prospect of rescue". InOakdene, Judge Claassen specifically looked at what is required to place a company into business rescue, and where it is "just and equitable to do so for financial reasons". This test is clearly in the court's discretion, but Judge Claassen gave us some guidelines in respect of how this should be analysed by a court when considering a prospective application for business rescue. He concluded by stating that "financial reasons" in this context must relate to a situation where there must be some financial basis to support business rescue and which would be in the interests of all stakeholders affected by the business rescue process. The court should consider all of these competing interests when contemplating a business rescue order.
When the matter came before the SCA, the court used the opportunity to hand down a seminal judgment dealing with the requirements that an applicant must fulfil in order to satisfy the test of a reasonable prospect for rescuing the company. The SCA held that a reasonable prospect must refer to a prospect based on reasonable grounds – "something more than a mere "prima facie" case, but less than a reasonable probability". A mere speculative suggestion is not enough. What is required is a reasonable measure of detail about the proposed plan so that this requirement can in fact be satisfied. Clearly, the court was of the view that details concerning the reasonable prospect must be dealt with to some extent in the application to court. The actual detail and workings of the business rescue which would deal with all the mechanisms being proposed to restructure the company need not be specified in significant detail in the application but should be left to the practitioner to deal with in the business rescue plan itself.
Of course, for a shareholder it is easy. Such shareholder will, in all likelihood, have access to the financial information of the company and could make out a case for a "reasonable prospect". But for any other affected person, and in particular a creditor, the practicalities of placing these facts before the courts make this very difficult. Critics say the courts have focused too heavily on the detail / extent of the rescue plan being placed into the court application. Simply, as I have already stated, creditors do not have access to the financial information. Critics have said that the threshold has been placed too high. What should in fact happen is that the "skeleton" of a plan should be put forward in the application to court (which supports the contention that there is a viable business that can be rescued), with the detail of the plan being developed by the business rescue practitioners, once appointed. It seems non-sensical that in support of a section 129 resolution (and where there is no requirement for an application to court), that all that is required is a "sworn statement of the facts relevant to the grounds on which the board resolution was founded"… nothing more! (section 129(3)(a)).
In this context, one must consider the Richter decision in the SCA. The much criticised Richter decision was controversial in that the SCA held that there is no sensible justification for drawing a line in the sand between pre- and post-final liquidation in circumstances where the prospects of success of business rescue continue to exist. In other words, a business rescue application can still be brought after the date of a final liquidation order.
This is controversial from a practical perspective. How does a business rescue practitioner get appointed after various acts of administration in the liquidation of the company have already occurred in the hands of a liquidator? How can there still be, on any basis, the prospect of a successful business rescue occurring once the company has already been tainted and/or affected by a liquidation process? Various assets could have been sold, employees' contracts could have been terminated, various dispositions could have been set aside and interrogation of directors could have occurred.
In my book, I specifically deal with practical examples of how difficult it must be for a business rescue practitioner to be appointed in these circumstances. It all comes down to a proper interpretation of "liquidation proceedings" in section 131(6) of the Act. I also look at the various cases that followed Richter and how the judges in those cases struggled with the concept of bringing a business rescue application after the liquidation process had actually commenced. Cases such as Van der Merwe v Sonicus in 2015 in the Western Cape and Burmeister and Spitzkop in January 2016 all deal with this issue. The courts considered whether a liquidation would be far more preferable and/or advantageous to creditors than the proposed business rescue mechanism.
As I conclude in my book, and it is my submission, that the courts have no choice but to exercise their "judicial discretion" in granting a business rescue order where liquidation proceedings have already commenced and to do so quite widely. Exercising this discretion will often be determined by the facts of the particular case where the court must consider equities and where the abuse of the business rescue process must be carefully avoided.
One must also consider the second part of the definition for business rescue as set out in section 128(1)(b)(iii) – the so called "formal wind down in business rescue". This is often referred to as the alternative objective of a business rescue, namely a liquidation process within business rescue proceedings. The definition for business rescue means proceedings to facilitate the rehabilitation of a company that is financially distressed by providing for - …
"(iii) the development and implementation, if approved, of a plan to rescue the company by restructuring its affairs, business, property, debt and other liabilities and equity in a manner that maximises the likelihood of the company continuing in existence on a solvent basis or, … if it is not possible for a 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."
In practice, we are seeing more and more of the formal wind down ("quasi-liquidation") of a company as contemplated by the second part of the business rescue definition. If you look at the recent examples of successful business rescues, ultimately, many of these have resulted in a sale either of the company's shares to a third party, or of the business/assets of the company to a third party. Examples are Southgold, Evraz Highveld Steel and Optimum Coal Mine.
An interesting debate is whether or not a formal wind down process in fact fits into the second part of the definition or not? If the company continues to trade, albeit under the ownership of new shareholders, is that a formal wind down? Obviously, in certain instances, the business rescue practitioner leaves behind an insolvent company, after having sold its business/assets out to the third party buyer and whereafter a liquidation of the old entity occurs. This certainly would fit closer to the second part of the definition, being a formal wind down in business rescue.
We are definitely seeing more and more of the formal "wind down" process in business rescue. We see this in situations where business rescue has not resulted in a sale, and where the business rescue practitioners have little alternative but to take the assets, put them up for sale but where they do so on a scientific basis and where the practitioners carefully ensure that business/assets of the company are sold at much higher values than you would achieve in a liquidation. This is often achieved by a formal sales process which is run by professional firms sitting alongside the business rescue practitioner and where there is a proper methodology and systematic sale process which generally always results in a better return than you would get in a liquidation.
REGARDING “BINDING OFFER” AND “INAPPROPRIATE VOTE”, HOW HAVE YOU DEALT WITH THIS ASPECT IN YOUR BOOK?
It has often been said that business rescue is nothing more than just "rearranging the deck-chairs on the Titanic?" You sometimes hear comments such as ... "are we not just flogging a dead horse"… or "should we not just switch off the life support system?"
Now in my book I deal with this criticism in some detail and where I analyse the proposition that some companies deserve to be rescued, and where others simply do not. These latter companies must be placed into liquidation and need to be "put out of their misery".
One must remember that section 7(k) to the Act states:
"7. The purposes of this Act are to –
(k) provide for the efficient rescue and recovery of financially distressed companies, in a manner thatbalances the rights and interests of all relevant stakeholders;"
Now what happened in the KJ Foods matter is very important in this context. The Kariba case (unfortunately) has already created a lot of doubt as to the effectiveness of the binding offer mechanism, where an affected person can force a dissenting creditor to be bought out at liquidation value where that creditor had voted against the plan. So, putting Kariba aside, we are left with the inappropriate vote mechanism as set out in section 153 and that issue was dealt with in the KJ Foods matter by the SCA.
The unfortunate result in the SCA for FirstRand Bank was that its vote was set aside as being inappropriate. In the matter, the bank wanted to vote down a plan which, in the bank's view (and where it held the majority vote) was not sustainable. Notwithstanding, the majority decision in the SCA felt that the vote was inappropriate and where the court itself looked at section 153(7) and said that the inappropriateness of a vote is a value judgment made after consideration of all the facts and circumstances. The question for the court will always be whether it would bereasonable and just to set aside the result of the vote? In the matter, the SCA was of the view that this determination entails a single enquiry and value judgment on its part.
I think that unfortunately the KJ Foods matter stood on the particular facts of that case and that I think in future deliberations by a High Court, you might still find a very different result, where a bank wants to vote down a plan on the basis that it determines that the plan is not feasible or is not workable.
After all, what might be highly "appropriate for the bank", might be very inappropriate for the rest of the creditors who are desperate to push the plan through! Whether or not on the peculiar facts in the case determined a particular outcome will have to be considered by future deliberations on this issue. Another Court might feel that FirstRand might have been dealt with unfairly or in a manner which sets a precedent for the courts to deal with banks where they vote down a plan in the circumstances, in a different way?
REGARDING POSSIBLE REFORMS TO CHAPTER 6 OF THE COMPANIES ACT 2008, BRIEFLY MENTION SOME OF THE MORE IMPORTANT REFORMS THAT YOU RECOMMEND?
I have dealt with recommendations for further reform to Chapter 6 in the book and by the way, many of these recommendations are in the process of being submitted to the Department of Trade and Industry for consideration by them when it comes to possible amendments to Chapter 6.
The Department of Trade and Industry's representatives recently advised delegates at an international company law seminar held on Thursday 24 August of this year that they were looking at proposed amendments to the Companies Act and which would incorporate amendments to the business rescue legislation. I must say we were told something quite similar in October 2016 and we are still waiting for amendments. So in any event, watch this space!
Now in Chapter 10 of the book, I have made various recommendations for reform and I won't obviously be able to deal with all of them now, but I want to highlight a few.
For me, before we even get to the actual proposed amendments to the Chapter 6 legislation, at the forefront of all issues is for the Department of Trade and Industry to continue with its work in declaring certain professional organisations as being accredited, such as SARIPA, TMA, SAICA and the Law Society. This process is well under way. The objective is to ensure that any prospective business rescue practitioner must belong to one of these accredited professional organisations in order to take on or be licensed for a business rescue.
Once this occurs, in my view, each one of these organisations will be able to set proper standards – both from an education, training and experience perspective – so that all business rescue practitioners who wish to become licensed to become business rescue practitioners in terms of the Act will need to sit for an exam and become "qualified" to act as a business rescue practitioner.
This will no doubt sort out issues where inexperienced practitioners take on business rescue matters which ultimately result in the liquidation of these entities. Unfortunately we often see business rescue practitioners advising boards of directors to place their companies into business rescue, when they have not really considered whether or not there is any reasonable prospect of the company being rescued.
I deal with this to a large degree in my book, where I analyse, together with the assistance of people like Dr Marius Pretorius of the University of Pretoria, as to why the statistics reflect a very skewed position of the success of business rescue in South Africa. Many companies are not candidates for business rescue. They should in fact be placed into liquidation from the very outset. But unfortunately practitioners who might be chasing fees or might be only interested in prolonging the agony of the company before placing it into liquidation, provide very skewed results of the number reflective of successful business rescues.
So I am hoping that the accreditation process itself will create a whole new dimension, hopefully in 2018, to the manner in which practitioners are in fact appointed to companies and further will result in a more accurate methodology to monitor what it means to have a truly successful business rescue.
Now looking at specific amendments, I know we haven't touched on it in great detail, but the binding offer mechanism is for me critical and one which must be amended as soon as possible to create certainty in the market, and where a hold-out creditor who does not want to vote in favour of a business rescue plan must be forced to sell out his or her voting interest at liquidation value. If that creditor is not prepared to support a plan, it makes complete sense that that creditor must then accept a buy-out at liquidation value, because that ultimately is the result if the plan fails. So the binding offer mechanism is presently not workable because of the way section 153 is drafted. We need to turn the Kariba decision on its head by way of an amendment. I propose that a definition of the term "binding offer" should be inserted into section 128. In my personal view, a binding offer must be defined to mean "an offer put forward by an offeror for the voting interests held by an offeree, which offer once submitted is binding on both the offeror and the offeree". Any other interpretation, in my view, renders the binding offer provision meaningless and prohibits viable plans from being approved as a result of the unconscionable conduct of hold-out creditors.
Secondly, the legislature should introduce a mechanism to allow practitioners to interrogate directors, management, staff and any other person who can assist in the investigations envisaged by section 141 of the 2008 Companies Act. The ability of practitioners to investigate certain issues such as the company's financial distress, voidable transactions, the failure of the company or any director to perform material obligations relating to the company and reckless trading or any other contraventions of the law relating to the company would be significantly enhanced if an interrogation procedure like we find in section 417 and 418 of the 1973 Companies Act is introduced into Chapter 6. This will massively bolster confidence in the business rescue mechanism and where we will see more and more creditors supportive of the business rescue process, and where in certain instances errant directors can be "brought to book" by way of interrogation procedures.
Lastly, I am of the view that a pre-assessment must become a prerequisite for the taking on of any appointment by a practitioner. In my view, failure to conduct a proper and detailed pre-assessment before one takes on the appointment as a business rescue practitioner should be regarded as recklessness on the part of the practitioner. As is dealt with in great detail in the book, a pre-assessment is clearly of huge benefit to the directors on the board when considering a section 129 resolution for business rescue. Board members would be able to rely on a properly detailed pre-assessment report which would alleviate the pressure placed on directors when they deliberate over the section 129 resolution. This pre-assessment requirement must be built into Chapter 6 by way of an amendment where such pre-assessment must become a pre-emptory precursor to any decision by a board of directors when considering a section 129 resolution for voluntary commencement of business rescue.
There are many more amendments suggested in the book and I invite all of you to go there to have a look."
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