South Africa’s Business Rescue regime – firing on all cylinders?

The downturn in world economies has placed business under severe pressure in the last few years. In South Africa, the knock-on effect has been felt, with several businesses going out of business, filing for liquidation and with many turning to the South African business rescue procedure as a possible lifeline.

Chapter 6 of the Companies Act No. 73 of 2008 (the 2008 Companies Act) introduced intervention mechanisms to rescue companies that are in financial distress. The test set out in the 2008 Companies Act is that if it appears to the board of a company that it appears to be reasonably unlikely that the company will be able to pay all of its debts as they become due and payable (commercial test) within the immediately ensuing six–month period; or if it appears to be reasonably likely that the company will become insolvent (factual test) within the immediately ensuing six–month period, then such company would be “financially distressed”. A business rescue practitioner would be appointed to supervise the company on a temporary basis with the aim to develop and implement a rescue plan for such company.

The outcome of a plan would be to ensure that the company could continue to exist 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, then would result from the immediate liquidation of the company. When a South African company is in financial trouble but the potential still exists to rescue it, various rescue options can be considered other than a formal liquidation process.

If management recognises the signs of financial distress early enough, it is possible to negotiate with the company’s creditors in an attempt to reach some kind of informal compromise that would assist the company in overcoming its financial difficulties². Such an informal compromise or workout may in certain instances yield a positive outcome, but in some instances, creditors are not willing to cooperate with the company facing a potential liquidation. In such event, there is a need for a moratorium or stay of liquidation procedures in favour of a formal statutory procedure such as business rescue.

The business rescue process has provided South Africans with the opportunity to move corporate restructuring from a “pro-creditor” system to one of “pro-debtor”. The need for a sustainable recognition of creditors’ claims being compromised and being forced (if in the minority) to take “the restructured deal” has now been generally accepted by creditors.

For many years, South Africa was left in the doldrums of an archaic judicial management system³, with few alternatives other than liquidation. Drawing from the best that international restructuring regimes had to offer, Chapter 6 found its way into the South African Company Law Statute in 2011, bringing South Africa, belatedly, into line with standards set by international corporate rescue regimes.

There is a recognition that companies that are already insolvent must be placed into liquidation, and those capable of being rescued must be saved. Clearly, if there is no chance of rescuing the company, then there is no need to continue to “flog the proverbial dead horse”. If liquidation is the only alternative, then the practitioner and the creditors must release the company from its rescue proceedings and place it into liquidation.

Modern rescue culture (which started all those years ago in the UK and the US) supports the notion that there is always a need to save debtor companies that are candidates for rescue and which have genuine recovery prospects. These companies are entitled to receive the protection of the moratorium and the opportunity to have the business restructured, rationalised and to exit into a solvent trading position.

The fact that the voluntary entry into business rescue occurs by the mere passing of a board resolution, reflects the South African legislature’s intention to make rescue and restructuring an easier mechanism to secure a “fresh start”, and supports a shift to a more debtor-friendly (company focused) approach. The current shift in mindset was best stated by Judge Claassen in Oakdene Square Properties (Pty) Ltd and Others v Farm Bothasfontein (Kyalami) (Pty) Ltd and Others; Farm Bothasfontein (Kyalami) (Pty) Ltd v Kyalami Events and Exhibitions (Pty) Ltd and others⁴: “The general philosophy permeating the business rescue provisions is the recognition of the value of the business as a going concern rather than the juristic person itself. Hence the name “business rescue” and not “company rescue”. This is in line with the modern trend in rescue regimes. It attempts to secure and balance the opposing interests of creditors, shareholders and employees. It encapsulates a shift from creditors’ interests to a broader range of interests. The thinking is that to preserve the business coupled with the experience and skill of its employees, may, in the end prove to be a better option for creditors in securing full recovery from the debtor.”

The mind shift remains work in progress. Most South African companies, directors and bankers need to resist the temptation of “sinking the Titanic” and placing the financially distressed company into liquidation. Of course, the historical notion of “becoming insolvent” and the sense of failure and shame which goes with it, must be considered by management when they choose business rescue as an alternative. However, as time goes on and we continue to see significant companies being rescued, confidence in the process will increase and no doubt business rescue will gain traction in the South African distressed market place. The banks will play a significant role here⁵.

The successes of business rescue in the cases of Pearl Valley Golf Estate in the Western Cape⁶, Advanced Technologies and Engineering Company in Gauteng (ATE)⁷, Meltz Success⁸, Moyo Restaurants, ODM, President Stores⁹, Southgold, Ellerines and more recently Optimum Coal Mine¹⁰, have all contributed to a renewed vigour in the business rescue space and in renewed confidence in the possibility of successful outcomes¹¹.

The ability to achieve a strategic acquisition of a distressed company within a short time frame by using the business rescue process, is one which requires an early identification of the distressed asset, the immediate availability of cash to fund an acquisition, as well as a commitment to propping up the company by introducing post- commencing funding to pay ongoing expenses and overheads, while the company is undergoing its restructuring and/or its acquisition process in business rescue.

Despite initial reservations, South Africa has embraced the opportunity to resuscitate companies in distress that, without Chapter 6, would have been placed in liquidation with all of the negative outcomes flowing therefrom.

1. Eric Levenstein recently graduated with an LLD (Doctorate of Laws) in Business Rescue at the University of Pretoria.
2. The section 155 compromise procedure is available to financially distressed companies but it does not have the comfort of a moratorium (stay) of creditor claims. Thus, the Chapter 6 business rescue process is often favoured.
3. Judicial management was not successful for various reasons. One of the features which led to its downfall was the expectation that all claims of the company be paid (in full) as an outcome of the judicial management process.
4. Oakdene Square Properties (Pty) Ltd and Others v Farm Bothasfontein (Kyalami) (Pty) Ltd and Others; Farm Bothasfontein (Kyalami) (Pty) Ltd v Kyalami Events and Exhibitions (Pty) Ltd and others 2012 (3) SA 273 (GSJ) 438 at para 12.
5. South Africa has a stable, well-managed and well-regulated financial sector, which is a great asset. There is a limited range of banks able to lend against strong security and at lower risk. When a company is in financial distress, banks often believe they have sufficient security and that they do not need to throw their weight behind the business rescue process. In some instances, they seem to regard business rescue as an irritating obstacle blocking the path to an orderly recovery.
6. Standard Bank of South Africa Ltd acquired Pearl Valley Golf Estate (Pty) Ltd out of a business rescue plan, which was successfully implemented in January 2013.
7. ATE was acquired by the Paramount Group out of a business rescue proceeding in March 2013.
8. Moyo Restaurants (in business rescue) were acquired by Fournews in 2013.
9. Southgold (in business rescue) was acquired by Witsgold in 2012.
10. In September 2016 Optimum Coal Mine exited from business rescue after being acquired by Tegeta, a subsidiary of Oakbay.
11. The latest statistics reflect an increasing trend towards business rescue being on the increase and liquidations on the decrease – see here where it has been reported that in June 2016, the total number of liquidations had decreased by 22,8 per cent year on year when compared with the same period in 2015. Further, in the University of Pretoria report (UP Report available at https://www.cipc.co.za/files/9614/6857/6141/Status_of_Business_Rescue_Proceedings_in_ South_Africa_March_2016.pdf) published in March 2016, reports that there were 310 successful filings for business rescue (out of 1911 filings) – a success ratio of 14 per cent – although this figure is fairly low, it does indicate that the South African rescue industry is hard at work in an effort to save failing companies in the South African economy.

This article was reproduced with permission from INSOL World.