Business rescue explained


Cape Town - The restructuring of companies in financial distress is on the increase globally and, although the concept of business rescue has been in practice in many overseas jurisdictions - especially in the USA - for some time.

Chapter 6 of the new Companies Act first introduced it to the South African legal landscape. This chapter of the act allows those SA companies in "financial distress" or trading in insolvent circumstances to file for business rescue and, with the assistance of a business rescue practitioner, reorganise and restructure the business with the aim of returning it to a more stable and profitable entity.

However, with business rescue a relative newcomer to the South African legal system, there is often a lack of understanding regarding both its workings and the role practitioners play in assisting an ailing company in returning to health.

Attorneys Lawrence Whittaker (head of the commercial law deptartment) and Henry Stubbings (commercial law attorney specialising in business rescue) at Cape-based law firm Herold Gie Attorneys, further explain this increasingly active area of law:

“A company may find itself in financial distress due to a conspiracy of circumstances which can be overcome, given time and careful management,” explains Whittaker.

“The business rescue process can now provide the company with the opportunity needed to reorganise and restructure its affairs, and to structure a payment scheme with its creditors, whilst also saving jobs (one of the more important considerations of the act) and allowing the business to continue trading as an economically contributing entity,” he says.

“The act also offers a ‘moratorium’ on legal proceedings or liquidation procedures against any company that is in business rescue. This has far reaching effects on creditors, financial institutions, shareholders, employees and restructuring specialists.”

What is business rescue, in a "nutshell"?

“Business rescue, as defined by the Companies Act 2008, aims to facilitate the rehabilitation of a company that is "financially distressed" by providing for: the temporary supervision of the company and management of its affairs, business and property by a business rescue practitioner, a temporary moratorium ("stay") on the rights of claimants against the company or in respect of property in its possession and the development and implementation (if approved) of a business rescue plan to rescue the company by restructuring its business, property, debt, affairs, other liabilities and equity,” says Stubbings.

What is the "test" for business rescue?

“The act defines the words “financially distressed” to mean that it appears reasonably unlikely that the company be able to pay all of its debts as they become due and payable for the upcoming six months (commercial insolvency) or it appears to be reasonably likely that the company will become insolvent within the immediately ensuing six months (factual insolvency),” says Whittaker.

“One of the key criteria to qualify for protection is that it can be proven that the company has a fair chance of recovery.”

How is a company placed in business rescue?

“There are two ways in which a company can be placed in business rescue, namely – when the board of directors resolves that the company voluntarily commences business rescue proceedings or when an affected person makes a formal application to the High Court for an order placing the company under supervision and commencing business rescue proceedings,” says Stubbings.

What is an affected person?

“An affected person is either a shareholder, creditor, employee (or their representative) or a registered trade union representing employees of the company. Affected persons have various rights within the business rescue process and any of these affected persons can bring about business rescue proceedings,” continues Stubbings.

What is a business rescue practitioner?

The act sets out who may be appointed as a business rescue practitioner, the qualifications required and their duties and responsibilities. A business practitioner must be a member in good standing of a legal, accounting or business management profession, and should have a strong financial background, no conflicts of interest with the business - accredited by the commission and must be licensed by the commission.
Companies undergoing business rescue proceedings are classified either as large, medium or small companies according to what is referred to as a public interest score. The size of the company determines the experience required by the business rescue practitioner.

Persons eligible to be appointed as practitioners are classified in the following three groups: "senior", "experienced" or "junior" – as further defined by the act.

What is the role of the practitioner?

The practitioner is required to reduce the debt burden in order to enable the company to continue trading. They are required to investigate the company’s affairs, business, property and financial situation, and thereafter consider whether there is any reasonable prospect of rescuing the company.

A business rescue plan must be drawn up by the practitioner and will then be put to a vote by the creditors.
Once successfully voted in, the business rescue practitioner must implement and oversee the business rescue plan in an attempt to save the company.

During business rescue proceedings, the practitioner must notify the company, the court and affected persons that there is:

- No reasonable prospect for the company to be rescued or no longer reasonable grounds to believe that the company is financially distressed; or

- Evidence, in the dealings of the company before the commencement of business rescue proceedings, of voidable transactions or a failure by the company or any director to perform any material obligation relating to the company and the practitioner must direct the management of the company to take steps to rectify the problem; or

- Reckless trading, fraud or other contravention of any law relating to the company, and the practitioner must forward the evidence to the appropriate authority for further investigation and possible prosecution and direct the management to take any necessary steps to rectify the matter (including recovering any misappropriated assets of the company).

Are there certain categories of companies for which business rescue practitioners may take appointment?

Regulation 127 of the act distinguishes between different categories of companies for the appointment of business rescue practitioners.

A senior practitioner can take appointment for a medium company (company with a public interest score between 100 and 500) or of a large company (company with a public interest score of 500 or more).

An experienced practitioner is one who immediately before being appointed as a practitioner, actively engaged in business turnaround practice before the effective date of the act or as a business rescue practitioner in terms of the act, for a combined period of at least five years.

Such person can take appointment for a small company (company with a public interest score of less than 100) or for a medium company (company with a public interest score between 100 and 500).

Regulation 26(2) of the act sets out the manner in which the public interest score is calculated, based on a number of contributing factors.

How is the practitioner remunerated?

Regulation 128 of the act sets out tariff of fees. The remuneration of the business rescue practitioner may not exceed:

- R1 250 per hour, to a maximum of R15 625 per day in the case of a small company;

- R1 500 per hour, to a maximum of R18 750 per day in the case of a medium company;

- R2 000 per hour, to a maximum of R15 000 per day in the case of a large company.

A practitioner is also entitled to reimbursement for the actual cost of any reasonable disbursements or expenses incurred in carrying out the proceedings.

What powers does a business rescue practitioner have?

"Considerable powers, essentially equating to full management and control over the company,” comments Stubbings.

“The practitioner is also regarded as an officer of the court. They may delegate certain functions to a director or to a person who was part of the pre-existing management of the company.

"The practitioner may also remove any person who formed part of the pre-existing management of the company from office or appoint a person as part of the management of a company. In some instances the practitioner will need to obtain the approval of the court for an appointment."

How does the business rescue process unfold?

Once a company commences business rescue proceedings either voluntarily (section 129) or by an order of court (on application by an affected person) the following actions are prescribed by the act:

The practitioner must investigate the affairs of the company as soon as possible after the commencement of business rescue.

Within 10 business days after being appointed, the practitioner must convene a meeting of the creditors and a meeting of the employees and advise them of the prospects of rescuing the company.

The business rescue plan, as proposed by the practitioner, must be published by the company within 25 days after the date on which the business rescue practitioner was appointed.

The business rescue practitioner must convene a meeting of the creditors and any other holders of a voting interest, for the purpose of considering the proposed plan, within ten business days of the publication of the business rescue plan.

“This serves to emphasise that business rescue is an urgent process, even though leeway is granted by the courts on these reporting periods, depending on the size and complexity of a business,” explains Stubbings.

Can a business rescue practitioner be removed from office?

“Yes, by order of the court via affected persons,” says Stubbings.

What happens if the time periods in respect of voluntary business rescues are not adhered to?

With voluntary business rescues, in terms of section 129, if a company fails to comply with the provisions of sections 129(3) and (4), the resolution lapses and is a nullity.

The company may not file a further resolution for a period of three months after the date on which the resolution was adopted, unless a court, on good cause shown, approves of the company filing a further resolution.

Further, an affected person can make application to court, in terms of section 130, to set aside the resolution on the grounds that the company has failed to satisfy the procedural requirements set out in section 129.

Can one oppose a business rescue resolution?

Section 130 provides that at anytime after the adoption of a business rescue resolution, an affected person may apply to court for an order – setting aside the resolution on the grounds that:

- There is no reasonable basis for believing that the company is financially distressed;

- There is no reasonable prospect for rescuing the company; or

- The company has failed to satisfy the procedural requirements in section 129;

- Setting aside the appointment of the practitioner on the grounds that the practitioner does not satisfy the requirements of section 138, is not independent of the company or its management or lacks the necessary skills, having regard to the company’s circumstances, or requiring the practitioner to provide security (in an amount and on terms and conditions that the court considers necessary to secure the interests of the company and any affected person).

A director of a company that votes in favour of a resolution may not apply to court to set aside the resolution or the appointment of the business rescue practitioner unless such person can satisfy the court that he acted in good faith on the basis of information that has since been found to be false or misleading.

What happens to the directors during business rescue?

They remain the directors. However, their powers and duties are constricted in that the business rescue practitioner has full management control over the company in substitution for the board of the company and its pre-existing management.

In terms of section 137, the directors of the company – must continue to exercise the functions of a director, subject to the authority of the practitioner.

"If any director of the company purports to take any action on behalf of the company that requires the approval of the practitioner, that action is void unless it is approved by the practitioner (section 137(4),” explains Stubbings.

“As soon as practically possible after the commencement of business rescue proceedings, the directors of the company must deliver all books and records that relate to the company to the practitioner and which are in the directors’ possession."

Within five business days after the commencement of business rescue proceedings, or such longer period as the practitioner may allow, the directors must provide the practitioner with a statement of affairs containing certain information as prescribed by the act.

What effect does Business Rescue have on employees?

Section 136 of the act regulates the interests of employees during business rescue. It provides that employees who were, immediately prior to the institution of business rescue, employed by the company will remain with the company according to the same terms and conditions except to the extent that changes occur in the ordinary course of attrition or if different terms and conditions are agreed between the employee and the company in accordance with labour laws.

What effect does business rescue have on shareholders?

“During business rescue proceedings, an alteration in the classification or status of any issued securities of a company, other than by way of a transfer of securities in the ordinary course of business, is invalid except to the extent that the court, or the business rescue plan, directs otherwise,” notes Stubbings.

What effect does business rescue have on a creditor?

Under the supervision of the business rescue practitioner creditors need to comply with their obligations to supply goods or services to the company in the same manner in which they did prior to the commencement of business rescue proceedings, unless the agreement between the company and the creditor regulates the relationship between the parties in the event of an insolvency or business rescue.

However, it is understandable that unsecured creditors and lenders during business rescue would be wary of continuing to service or supply goods to the company on the same basis on which they did prior to a business rescue as their claims will be satisfied last in accordance with the order of preference for the payment of claims prescribed by the act.

Success rates? Let’s look at strengths and weaknesses.

“There’s no doubt that the business rescue regime of the new Companies Act is a significant advance over judicial management (the old Companies Act of 1926) and, since the drafters of the act looked far and wide at international best practice, it is probably as good as any business rescue regime anywhere in the world,” comments Whittaker.
“That said, there is international evidence that only 5% of business rescue cases are successful. Whilst SA studies are still underway to determine the success rate of business rescue in the local context, there are estimates that this sits somewhere between 10% – 12%.”

“There are also other issues to deal with,” explains Stubbings. “These include tight (and sometimes unmanageable) timelines for discovery and reporting, and the potential for some directors to abuse business rescue due to the moratorium placed on creditors during the process,” he says.

“The success of business rescue often also depends on the judiciary and the common sense interrogation of the conditions in which the company finds itself.”

“It is, however, reasonable to expect that the success rate will be higher with business rescue than was the case with judicial management,” says Whittaker.

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