Business rescue legislation in South Africa

Draft business rescue legislation announced

After a number of past initiatives (see history of business rescue legislation reform in South Africa), draft company business rescue legislation was approved in Cabinet on 7 February 2007 and published for comment on 12 February 2007 as Chapter 6 of the Companies Bill, 2007. 

The modern business rescue regime as per Chapter 6 of the Companies Bill, 2007 will replace South Africa's relatively antiquated present business rescue legislation and bring it on par with progressive overseas countries. 

"South Africa does not have a business rescue system" trade and industry minister Mandisi Mandisi Mpahlwa said on 20 February 2007, and "we move too quickly to liquidate companies, partly because the current company legislation is too creditor oriented".

The Companies Bill is the culmination of a process that began in 2002.  

The first part of the process involved the development of the policy context. 

To this end, a discussion document outlining the envisaged objectives of the reform, as well as some of the key principles, was released in June 2004. 

After a fairly wide consultation process, the dti began drafting new legislation.  The first complete draft of the Companies Bill was put to focus groups consisting of practitioners, business representatives, academics and government stakeholders in July 2006, roughly two years later. 

What is important to note is that the Bill has already been subjected to initial consultation and scrutiny.

"While the initial public comment period extended until 19 March 2007 (Note: extended to 30 March), the department only intended to take the bill back to Cabinet in about June this year, thus providing for a longer public consultation process.  

The department hoped to be able to table the bill in Parliament at the end of the year, where further opportunities for public engagement would be provided", Mpahlwa said.

Consultation

The dti held a conference on the Companies Bill, 2007 on 19 and 20 March 2007 in Pretoria and received comment on the proposed Bill until 30 March 2007.

At the Companies Bill Conference Astrid Loudin said that the debate on the Bill would end when Parliament adopted the final draft in a year's time.

In the period leading up to the adoption, there would be intensive engagement with all stakeholders. "This will include the evaluation of public comments, the redrafting of difficult sections of the law, amendments to the technical omissions and the resubmission to key stakeholders for further input," Ms Loudin said.

Business rescue legislation discussion forums

Read opinions and questions of others with regard to new business rescue legislation and reply online with your own at Business rescue discussion forums.

There are forums for discussion of the draft legislation in general, as well as separate forums for each individual section of Chapter 6 of the Companies Bill, 2007.

Additionally, there are private forums for working committees of the Turnaround Management Association - Southern Africa and ABASA - Association of Business Administrators of South Africa.

Read the complete Chapter 6 of the Companies Bill, 2007 online

• Part A - Business rescue proceedings.
• Part B - Supervisor's functions and terms of appointment.
• Part C - Rights of affected persons during business rescue.
• Part D - Development and approval of the business rescue plan.

Business rescue will be largely self-administered by a company under independent supervision within constraints, but subject to intervention by a court at any time on application by a stakeholder.

The objective is to 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.

Who should be in control?

The detractors of a debtor-friendly system such as Chapter 11 argue that with management remaining in charge, the fox is put in charge of the hen coop.

Its supporters argue that it is generally accepted as providing the best overall benefits to society as a whole - not only to the debtor and creditors, but also to employees and the total economy.

They also point out that in practice, for example with Chapter 11, where management was responsible for the misfortunes of a company, they are more often than not replaced by directors.

Lastly, they argue that directors and management are unlikely to place a company under supervision unnecessarily, as so feared by creditors.

• Firstly, business rescue is expensive and the cost of successful business rescue comes off the bottom line.  
• Secondly, insolvency/business rescue comes with a stigma negatively affecting management, employees, suppliers and customers. 

It is therefore likely that directors and shareholders will only go as far as placing a company under supervision if they need the protection of business rescue to avoid trading recklessly and to get the breathing space provided by the moratorium.

The detractors of a creditor-friendly system where secured creditors control the supervisor argue that secured creditors don't really have an incentive to rehabilitate the company.

Its supporters argue that creditors have entrenched rights under our insolvency system for example the right to apply for the winding-up of a company that is

Whatever the merits of these arguments, it cannot be denied that almost without exception, all new business rescue regimes in international jurisdictions have moved towards Chapter 11.

The counter argument is that South Africa, as a developing country, has different socioeconomic dynamics compared to the developed countries that implemented more debtor-friendly regimes.

Creditors not in control of appointing the supervisor

Given the stated objective of business rescue, namely rehabilitation by its management of a company, the intention of the legislation is not for creditors to appoint the supervisor (unless the company neglects to do so). 

This is in line with the Enterprise Act 2002 in the UK that restricted the ability of banks to appoint administrative receivers under terms of their floating charges. 

UK statistics provide an idea of who initiates business rescue: 58% Company / director appointments, 30% court appointments and 12% charge holder appointments.

The conclusion is that charge holders (creditors e.g. banks) take a non-interventionist attitude (refer to Dr. Sandra Frisby's research in the right most column).

Shift in decision-making power away from secured creditors

Compared to liquidation, there is a shift in decision-making power from secured to unsecured creditors since the voting interest of secured creditors is net of the secured portion of their claims.

Preferred creditor status

Apart from provisions for stronger recognition as a stakeholder, employees have increased decision-making power in terms of their voting interest (section 148), and preferred creditor status.

In the event of a liquidation employee claims rank highest after the costs of business rescue, above secured claims, post-commencement finance, and unsecured claims - section 138.

Employees winning come at the expense of secured creditors.

Cannot retrench

Employee contracts have to be maintained - section 139.

A company in crisis may need to reduce its labour costs to survive. This is commonsense practice in the informal sector during emergency management while developing a turnaround plan.  The inability to do so during business rescue in terms of Section 139(b) may just cause the company to die in business rescue, resulting in job losses for all employees.

The ranking of Sars' claims during liquidation following unsuccessful business rescue is not mentioned. 

View the business rescue proceedings timeline.

Some argue that the timelines are too short (compared for example with Chapter 11 in the USA which allows 6 months to craft the business rescue plan).

Others argue that the process is too long.

It should be borne in mind that a turnaround takes 18 – 24 months to embed.

The supervisor is obviously not required for the full duration, but only to investigate the affairs of the company, advise on crafting of the business rescue plan, and be present during implementation thereof until the supervisor can gauge whether recovery and return to normal are indeed likely to happen or not.  Business rescue proceedings then come to an end when the supervisor files with the Commission a Notice of Substantial Implementation of the business rescue plan.

The business rescue duration will be shorter if:

• The business is sold during the business rescue process.
• A pre-packaged business rescue is in place where a lot if not all the work has already been done prior to the company being placed under supervision.

The supervisor – an individual rather than a firm

Jonathan Rushworth, who is understood to be an advisor to the dti on drafting the business rescue legislation, informed attendees of the business rescue panel discussion on 20 March 2007 at the Companies Bill Conference that the supervisor does not represent a firm and the firm's resources, but is appointed as an individual who in turn may only appoint managers and advisors that are independent of the supervisor (and the company) in a "lawyer - advocate" relationship.

We recommend that the legislation should spell this out clearly since it cannot be inferred from the draft text.

In contrast to what industry is used to in informal creditor workouts and liquidations, the implication is that if the supervisor is appointed (in his/her personal capacity) from one of the turnaround / insolvency / corporate recovery / business reorganisation firms, the supervisor cannot use advisors from the supervisor’s firm to analyse the affairs of the company, to advise on the business rescue plan, etc.

Is the motive to remove the power of the large firms by stipulating that the supervisor and advisors come from different firms?

• The benefit is that it will limit the power of firms acting as advisors to unnecessarily prolong business rescue with a view to earn fees longer.
• The disadvantage is that the supervisor comes without the intellectual property, structures and systems associated with a team approach from his firm.

A single person cannot handle all the administration associated with the role of the supervisor.   The legislation should clarify the following:

• Would the supervisor be allowed to use, and charge for, his own administrative support staff?
• Where is the distinction drawn between administrative support staff and advisors?

Supervisor should not become the liquidator

As preferred creditors, the supervisor and his/her advisors have to be paid for their business rescue involvement whether the attempt is successful or not.

Banks are understandably uncomfortable with the company able to appoint the supervisor itself.   They are also concerned about the time delay in removing a "friendly" supervisor via the courts in cases where management is clearly to blame for a company's troubles, and when creditors don't agree with the company's choice of supervisor.

Moreover, there is few individuals in South Africa today who are equipped in terms of experience and qualifications to fulfil the role of the supervisor as spelt out in the Bill with regard to investigating the affairs of a distressed company and to advise on the crafting of a business rescue plan.

Clearly, supervisors doing business rescue should be approved by a body in which all creditors have confidence. This emphasises the need for regulation of supervisors that would include admission criteria and disciplinary measures against misconduct.

Enver Daniels, the Chief State Law Adviser, asked the question “who supervises the supervisor” at the business rescue panel discussion on 20 March 2007 at the Companies Bill Conference.   He later indicated that the Master of the Court should play this role.

We believe that supervisors should be regulated by industry itself.

Industry has indeed in 2004, and on request from individuals of DoJ, established ABASA – the Association of Business Administrators of South Africa. Note that the term “Business Administrators” is dated and should be replaced by “Supervisors” or “Business Rescue Supervisors”.

The Deputy Chairman of ABASA is Mervyn King SC who is well known to the dti for his corporate governance work.

TMA-SA submits that it would be important to consider the exam of the Association of Certified Turnaround Professionals (ACTP) as the admission exam to become a supervisor.

The ACTP is the sole international organisation dedicated to developing, monitoring, and maintaining a program of certification for professionals engaged in the turnaround, crisis management, restructuring and renewal of troubled businesses, organisations and associations.

The ACTP is sponsored by the Turnaround Management Association (TMA).

The 8-hour ACTP exam is based on three legs:

• Crisis management and turnaround management.
• Financial, managerial and tax accounting.
• Insolvency and business rescue law.

The TMA has indicated that it will make the ACTP body of knowledge and exams available for customisation by Turnaround Management Association - Southern Africa (TMA-SA) to local SA accounting standards and law.

There is uncertainty as to where advisors fit into business rescue.

The supervisor, if an individual as described above, cannot investigate the affairs of the company and advise on the development of the business rescue plan all by him or herself.   However, for any business rescue other than the smallest of companies, the supervisor needs arms and legs and specialised input that come in the form of advisors.

Advisors may be turnaround practioners, management consultants, lawyers, accountants and other service providers.

Business rescue is unlikely to be the first time that creditors and service providers focus on a distressed company.   Invariably, the company had already engaged advisors to help with a turnaround during the management-led correction and informal creditor workout stages prior to the company being placed under supervision.

Since the supervisor must be independent of the company, and may only appoint advisors that are independent of the supervisor and the company, Section 143 implies that advisors that were involved in the management-led correction and / or workout may not be appointed by the supervisor (but they can be appointed by the company).

View the pre-packaged business rescue diagram.

The discussion of the modern trend of laying the foundation of business rescue already before it is officially invoked by means of pre-packaged business rescue can be found under "Critical assessment of business rescue on the business rescue page.

The supervisor must be independent of the company, and cannot appoint advisors to the supervisor or to the company that are not independent of the supervisor and the company.

The 5 conceptual stages in turnaround management, with reference to the draft business rescue legislation, are:

• Changing the management: The supervisor in itself represents a change in management since its role is to supervise and advise management, with veto power of management decisions, and it can remove management from office and appoint managers.
• Analysing the situation: In terms of section 144, the supervisor must investigate the company’s affairs, business, property, and financial situation.
• Implementing an emergency action plan: This is not at all addressed in the draft business rescue legislation.  Crisis stabilisation during the emergency management phase should take place simultaneously with the preceding stage of analysing the situation, to ensure the short-term future of the distressed business. 

Chapter 6 is a court-intensive process.

The normal court system is unlikely to be appropriate for business rescue.

Experience commercial judges must be available at short notice.

Lack of an Explanatory Memorandum

The dti did not release a Chapter 6 Explanatory Memorandum explaining the origin, research, options considered and justification of the draft business rescue legislation.

This is in stark contrast to the 101-page Explanatory Statement that accompanied Australia's Corporations Amendment (Insolvency) Bill 2007.

It would have been ideal if the dti also supplied information about the draft legislation’s conformance to the UNCITRAL Legislative Guide on Insolvency Law, the World Bank’s Principles for Effective Creditor Rights and Insolvency Systems, and INSOL’s principles.

Regrettably, the lack of an Exploratory Memorandum makes submitting comment to the dti and subsequent consultation extremely difficult.

The Company Law Policy Document: Insolvency and Corporate Rescue of 2004 has but a few paragraphs on business rescue.

Deputy director-general of the dti, Astrid Ludin told Pierre Rabie of the Democratic Alliance on 16th March 2007 that the bill drew on international practice in the US and Australia, and from UN guidelines.

"It is very much designed for South Africa.  It gives rights to employees that are not found elsewhere," she said.

Note: The "UN guidelines" refers to guidelines of the United Nations Commission on International Trade Law (UNCITRAL).

Authors

The authors that assisted the dti in drafting the new legislation are not yet officially known, but it is understood that contributions came from Judge Dennis Davis, and overseas experts including Jonathan Rushworth of Slaughter & May, and another from the UK (as borne out by some foreign legal terms in the draft).

It is interesting to note that while the new legislation is heavily Chapter 11 orientated, the overseas experts are actually from the UK.

Resources and benchmarks

One assumes that the authors studied and selected the best from overseas jurisdictions, perhaps adjusted for local considerations and with a view of compatibility with future unified insolvency legislation.

But it would provide comfort to practioners to know what lies behind the crafting of Chapter 6, and that our academics and legal brains endorse it as the best in the world given our developing country status.

Over the past years, many international business rescue legislation conferences were held to debate best practice, and INSOL and UNCITRAL provided guidelines for effective modern business rescue legislation.

How the draft business rescue legislation complies to the eight principles of corporate restructuring (INSOL 2000)

• Creditors should cooperate with each other and give a debtor time to resolve its financial difficulties during a standstill period (a prescribed timeline is embedded in the draft legislation).
• During the standstill period creditors should refrain from taking action against the debtor (the draft legislation enforces a temporary moratorium).
• During the standstill period the debtor should not take any action prejudicial to the creditors (embedded in the draft legislation).
• Creditors should coordinate with the debtor, typically through a committee, and through the appointment of professional advisors to assist the committee (in the draft legislation, the committee of creditors is embedded, but the advisors are appointed by the supervisor rather than by creditors).
• During the standstill period, the debtor should provide the creditors and their professional advisors all relevant information to evaluate its financial condition and any restructuring proposals (in the draft legislation, the supervisor and his/her advisors will provide creditors with information).
• Any proposal for resolving the debtor’s financial difficulties should reflect applicable law and the creditors’ relative positions (embedded in the draft legislation, except that the proportional vote of secured creditors is net of the secured portion of their claims).
• All information should be made to all relevant creditors and, unless public, be treated as confidential (embedded in the draft legislation).
• Any necessary additional funding should be accorded priority status for repayment (embedded in the draft legislation, except that post-commencement finance ranks behind employee and secured claims).

The draft business rescue legislation has similarities to the debtor-friendly Chapter 11 system in the USA.

Issues discussed

Invitees

This was a closed workshop for those parties and individuals invited by dti based on their submissions of comments on draft legislation received by 30 March 2007.

Issues to be discussed

• Should the South African Business Rescue regime be more ‘creditor friendly’ (in the manner of the insolvency regime) or more ‘debtor friendly’ (in the manner of turn around regimes in many other jurisdictions)?
• Who or what parties should be entitled to institute the business rescue proceedings?
• What is the appropriate triggering mechanism for a business rescue process:  Is it insolvency (or imminence of insolvency), an insolvency event, or some earlier other event/circumstance and, if the latter, how should this be defined?
• How can the process provide for adequate and meaningful consultation with stakeholders before a final decision is made to proceed with formal business rescue plan?
• What is the proper role and place of the supervisor?  What qualifications, if any, are needed?  What, if any, supervision or regulation of supervisors is needed?  To whom does the supervisor owe a duty?  Should the Bill permit performance compensation of the supervisor?
• Is it reasonable or necessary to designate some creditors as ‘independent’ for the purpose determining their voting rights in the process?
• What should the position of providers of post-commencement financing be relative to pre-commencement creditors?  Should the Bill compel suppliers, etc, to continue supplying the business under business rescue and, if so, what should the position be?
• If a business rescue calls for a fundamental transaction (i.e. scheme of arrangement, sale of substantially all the assets or undertaking, merger or amalgamation), should that transaction be exempt from Takeover Regulation Panel or continue to be subject to Panel supervision in addition to business rescue approval regime?
• To the extent that business rescue is to be judicially scrutinised, should it rely on the High Court or is a Specialist Court/Tribunal preferable and, why?
• Should there be a role for the current section 311 compromises in business rescue process?

Invitees

If the views of the business rescue workshop participants will be taken into account, it may lead to key changes in the next draft of Chapter 6. 

Participants included the following:

• Tshepo Mongalo, Chairperson and Project Manager: Company Law Reform.
• Linda van Dieman: Assistant Director: Department of Trade & Industry.
• Bongi Mncube, Team Assistant: Department of Trade & Industry.
• Mpheane Lepaku, Deputy Director: Department of Trade & Industry.
• Nica Rakau, Legal Unit Head, National Union of Mineworkers (an affiliate of COSATU).
• Janek Wilimiec, Manager: Legal Services, FEDUSA.
• Justice Basheer Waglay, Judge of the Cape High Court.
• Shibishi Samuel Maruatona, Director, Business Leadership South Africa.
• Sisa Njikelana, Member of Parliament of the Republic of South Africa and of the Portfolio Committee on Trade and Industry of the National Assembly.
• Tebogo Marishane, National Treasury.
• Ashley Benjamin, Official of FEDUSA, Durban.
• Fachmy Abrahams, National Collective Bargaining Officer, SACTWU, (an affiliate of COSATU).
• Prakashnee Govender, Policy Researcher of COSATU.
• Jenny Meyer, Group Company Secretary, Anglo Platinum Ltd.
• Karin Rathbane, Associate, Deloitte, Johannesburg.
• John Evans, Principal, Deloitte, Pretoria.
• Kgosi Monaisa, Principal Company Secretarial Advisor, SASOL Ltd.
• Themba September, Chairman, Association of Business Administrators in South Africa (ABASA).