by Jarryd Mardon – Director, Wesley Vos – Senior Associate and Emma Reid – Candidate Attorney

1. Introduction

The relationship between section 48 of the Companies Act, No. 71 of 2008 (“the Companies Act“) (which regulates share repurchases) and section 114 of the Companies Act (which regulates schemes of arrangement) has historically been a source of interpretational uncertainty.

This article briefly explores the interface between these two provisions of the Companies Act in light of (i) the judicial guidance provided in Capital Appreciation Ltd v First National Nominees (Pty) Ltd and Others 2022 (6) SA 67 (SCA) read with the judgment of the court a quo (collectively the “Capital Appreciation judgments“) on the previous version of section 48 and (ii) the current version of section 48 following the promulgation of the Companies Amendment Act, No. 16 of 2024 (“the 2024 Companies Amendment Act“) which came into effect on 27 December 2024.

2. Legislative Background and Historical Debate

Prior to the promulgation of the 2024 Companies Amendment Act, section 48(8)(b) of the Companies Act stipulated that a decision by the board of a company to repurchase more than 5% of the company’s own shares, whether in one transaction or through a series of integrated transactions (a “Threshold Share Repurchase“), was subject to the requirements of sections 114 and 115 of the Companies Act.

Given that section 114 regulates schemes of arrangement, a debate emerged as to whether Threshold Share Repurchases were (i) automatically deemed to be schemes of arrangement such that all provisions in the Companies Act which apply to schemes or arrangements would also be applicable to Threshold Share Repurchases or (ii) merely that Threshold Share Repurchases are subject to the same procedural requirements in sections 114 and 115 of the Companies Act.

3. Judicial Guidance in The Capital Appreciation Judgement

The two alternative interpretations (as set out above) were considered by the Gauteng Division of the High Court in First National Nominees (Pty) Limited and Others v Capital Appreciation Limited and Another 2021 (4) SA 516 (GJ). The High Court examined the nature of a ‘scheme of arrangement’ and pointed out that section 114(1) of the Companies Act characterises a scheme of arrangement as “any arrangement between the company and holders of any class of its securities” but that an “arrangement” is not defined in the Companies Act. The court relied on various authorities to characterise a scheme of arrangement as a mechanism which can be used by the company to “affect the respective rights and obligations inter se of the company and its holders of securities in a manner which cannot otherwise be conveniently achieved by independent agreement between the company and each holder of securities“.

As such, a repurchase by a negotiated agreement which is concluded between the company and a particular shareholder on a consensus basis is not such a scheme of arrangement as it is only binding on those two parties and does not legally bind any other shareholders to any legal consequences in respect of the shares held by such other shareholders.

It was concluded by the High Court that the effect of section 48(8)(b) was not to deem a Threshold Share Repurchase to be a scheme of arrangement if, having regard to the nature of the transaction, it was not such an arrangement (as described above). The intention of the legislature was rather to subject Threshold Share Repurchases to ‘the procedural requirements’ of sections 114 and 115, and to trigger the shareholder rights arising from sections 114 and 115 (for example, the appraisal rights of shareholders in terms of section 164 of the Companies Act).

The judgment of the High Court was taken on appeal, and the Supreme Court of Appeal concurred with the findings of the High Court, thereby providing a clearer understanding of (i) the meaning of a scheme of arrangement, and (ii) the relationship between section 48 and section 114 of the Companies Act prior to the promulgation of the 2024 Companies Amendment Act.

Although the Capital Appreciation judgments primarily focused on the appraisal rights of dissenting shareholders in terms of section 164 of the Companies Act, the judgments nonetheless provided a judicial interpretation of section 48(8)(b) and its relationship with sections 114 and 115 of the Companies Act. The High Court and the Supreme Court of Appeal both confirmed that while section 48(8)(b), prior to its amendment, made Threshold Share Repurchases ‘subject to’ the procedural requirements of sections 114 and 115, it did not deem such transactions to actually be schemes of arrangement i.e. that the consequences of the repurchase transaction would become of wider application than to the parties to the section 48(8)(b) repurchase transaction. However, by importing the procedural framework of sections 114 and 115 of the Companies Act, such transactions could trigger shareholder appraisal rights under section 164, even if the Threshold Share Repurchase was not, in substance, a scheme of arrangement.

4. The Effect of the 2024 Companies Amendment Act

The 2024 Companies Amendment Act came into effect on 27 December 2024 and notably amended section 48(8) of the Companies Act by removing the reference to sections 114 and 115. The amended section 48(8) now stipulates inter alia that, in general, a decision by the board of a company to the effect that the company would acquire its own shares must be approved by a special resolution of the shareholders of the company unless the shares are acquired as a result of –

(i) a pro rata offer made by the company to all shareholders of the company or a particular class of shareholders of the company (notwithstanding that the pro rata offer made to all shareholders may include shareholders who are also directors, prescribed officers or persons related to a director or prescribed officers of the company); or

(ii) a transaction effected on a recognised and duly licensed stock exchange on which the shares of the company are traded.

However, despite the removal of the reference to section 114 in section 48(8), section 114(1)(e) of the Companies Act still lists a re-acquisition by a company of its securities as an example of a scheme of arrangement between a company and its shareholders, and section 114(4) still stipulates that section 48 applies to a proposed arrangement contemplated in section 114 to the extent that the arrangement would result in any re-acquisition by a company of any of its previously issued securities.

5. When is a Share Repurchase by a Company a “Scheme of Arrangement”?

The logical inference to be drawn from the recently amended wording of section 48 read with the unamended section 114 of the Companies Act is that a share repurchase which does not, having regard to the factual circumstances, constitute a ‘scheme of arrangement’ between a company and its shareholders (as characterised in the Capital Appreciation judgments) will be subject only to the requirements in section 48, whereas a share repurchase which does, having regard to the factual circumstances, constitute a ‘scheme of arrangement’ between a company and its shareholders (as characterised in the Capital Appreciation judgments) will be subject the requirements in sections 114 and 115.

Therefore, with the removal of the 5% threshold in section 48(8) in terms of the 2024 Companies Amendment Act, the circumstances and consequences of a particular share repurchase is the relevant consideration to determine whether a particular share repurchase amounts to a “true” scheme of arrangement or whether it is an individual repurchase transaction between willing buyer and willing seller, as opposed to approaching a repurchase transaction with a specific focus on whether or not a 5% threshold would be crossed.

In this regard, we can draw on the following guiding principles established by the High Court and the Supreme Court of Appeal in the Capital Appreciation judgments:

(i) if a company repurchases shares from a shareholder (the “Selling Shareholder“) by agreement between the company and the Selling Shareholder, the repurchase does not constitute a scheme of arrangement as the agreement is solely between the company and the Selling Shareholder and it does not legally bind any other shareholders whose consent to the transaction was not obtained, and consequently only section 48 of the Companies Act would apply; and

(ii) if a company will be able to repurchase shares from shareholders who do not consent to the repurchase but who are legally bound to such transaction pursuant to a special resolution of the shareholders of the company which approves such transaction, such a transaction would amount to a scheme of arrangement, and consequently sections 114 and 115 of the Companies Act would apply.

6. Conclusion

The effect of the 2024 Companies Amendment Act on section 48 of the Companies Act is that we can lay to rest the debate whether consensual share repurchases are “deemed” to be schemes of arrangement. However, identifying when a share repurchase will constitute a scheme of arrangement as opposed to a “pure” section 48 repurchase remains an important question to determine as it would dictate whether the more stringent provisions of sections 114 and 115 applying to the transaction or whether only the provisions of section 48 are required to be complied with.

It is therefore recommended that shareholders and companies should obtain advice from commercial attorneys who have the necessary expertise to advise on these matters.

[1] Capital Appreciation Ltd v First National Nominees (Pty) Ltd and Others 2022 (6) SA 67 (SCA)

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Read more about our Corporate Mergers & Acquisitions practice area.

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1. INTRODUCTION

The default position regarding who can access a company’s records and information (“company information“) and the nature and extent of what company information a person may access is set out in section 26 of the Companies Act, 71 of 2008 (“the Companies Act“).

When a shareholder wishes to sell its shares in a company, it will typically need to put in place a sale process (either directly with a preferred purchaser or potentially in the form of a competitive bid process). As part of such sale process, a preferred purchaser or the competitive bidders (“third-party purchaser“) would need to undertake a due diligence process in respect of the company in question in order to determine whether they wish to acquire the shareholder’s equity interest in the company, and at what price and on what terms and conditions.

In order to undertake such a due diligence process, the shareholder would need to provide the third-party purchaser with various information and documentation pertaining to the company including, but not limited to, its financial position, financial performance, its business operations, employees, intellectual property, contractual relationships, regulatory compliance, tax affairs, and other matters.

It may, however, be the case that the memorandum of incorporation (“MOI“) and / or the shareholders agreement (“SHA“) in respect of a company to impose confidentiality undertakings on shareholders which may prohibit them from disclosing, or which may limit the extent of disclosure, to third-party purchasers of certain of the types of information described above.

Furthermore, the scope of company information which is accessible to external parties (i.e. non-shareholders and non-directors), such as third-party purchasers, in terms of section 26(2) of the Companies Act is very limited. The reason for this is that the Act seeks to prevent access to sensitive company information by persons who may not have a legitimate interest in such information.

This has the potential to create a conundrum for shareholders who wish to exit their investment in a private company, because they may find themselves in a situation where they do not have clear rights under the MOI or SHA of the company to disclose certain company information to third-party purchasers to enable them to conduct a due diligence on the company, and/or may be unable to reach agreement with the board of directors of the company and/or the other shareholders of the company on what types of company information may be disclosed to third-party purchasers, and under what conditions such disclosure may be made by the shareholder. Such a scenario could hinder a shareholder’s ability to provide a third-party purchaser with all of the information and documentation which the third-party purchaser has requested in respect of the company for it to conduct a due diligence on the company to its satisfaction.

This article briefly sets out the position under section 26 of the Companies Act, and examines how shareholders and companies may seek to balance the requirement of shareholders to disclose company information to third-party purchasers, on the one hand, with the requirement of companies to effectively protect the confidentiality of company information on the other hand.

2. SECTION 26 OF THE COMPANIES ACT: THE DEFAULT POSITION

2.1. Shareholders’ information rights

Section 26(1) of the Companies Act (read with section 24 of the Companies Act) grants shareholders of a company the right to inspect the company’s MOI (as well as any amendments, alterations or rules thereto), the directors’ records, the securities register of the company, the annual financial statements of the company, any reports presented at an annual general meeting of the company, the notices and minutes of all shareholders meetings, including all resolutions adopted by the shareholders and any document that was made available by the company to the shareholders in relation to each such resolution, and copies of any written communications sent generally by the company to all shareholders.

Whilst section 26(1) would enable a shareholder to obtain such types of information from the company, it should be noted that section 26(1) does not specify how such a shareholder may utilise such information. It may be arguable whether a shareholder is permitted to disclose all such information to a third-party purchaser, either by virtue of confidentiality undertakings which may be contained in a company’s MOI or SHA, or by virtue of certain of such information being confidential to the extent that the company may be able to prove this on some or other legal basis.

2.2. Any other person’s information rights

In terms of section 26(2) of the Companies Act, any other person (including a potential third-party purchaser) only has a right to inspect the company’s securities register and the company’s register of directors.

Consequently, if a third-party purchaser’s ability to access company information is limited to the types of information contemplated in section 26(2) of the Companies Act, such a third-party purchaser would find themselves with very little useful information concerning the company for purposes of conducting a due diligence.

2.3. The establishment of additional information rights in a company’s MOI

Section 26(3) of the Companies Act expressly allows for a company’s MOI to establish additional information rights (with respect to company information) for any person or categories of person as long as such additional rights do not negate or diminish the mandatory protection of any record as afforded by the Promotion of Access to Information Act, 2 of 2000 (“PAIA“).

In this regard, section 68 of PAIA stipulates that a request for company information may be refused by the company if the information requested includes (i) trade secrets of the company, (ii) financial, commercial, scientific or technical information, other than trade secrets, of the company, the disclosure of which would be likely to cause harm to the commercial or financial interests of the company, (iii) information, the disclosure of which could reasonably be expected to put the company at a disadvantage in contractual or other negotiations and/or prejudice the company in commercial competition.

Whilst section 26(3) of the Companies Act clearly permits the establishment of additional information rights in a company’s MOI in favour of third parties which could include a third-party purchaser, the effect of section 68 of PAIA would largely negate the effectiveness of including such additional information rights in the MOI of a company.

In any event, it is doubtful whether the board or shareholders of a company would want to provide in its MOI for any person or categories of person to have access to the abovementioned types of company information in terms of a general right which may be enforced by a person or categories of person, but would likely prefer to instead grant shareholders the right to access and disclose certain types of company information to potential third-party purchasers who such shareholders are engaging with in the context of a sale process, subject to certain requirements being complied with by such shareholder and third-party purchaser.

3. REGULATING THE DISCLOSURE OF COMPANY INFORMATION BY A SHAREHOLDER TO THIRD-PARTY PURCHASERS

Having regard to the abovementioned considerations, a practical solution which would allow a shareholder to disclose company information to a third-party purchaser whilst effectively protecting the confidentiality of company information is to, at the time that the investor acquires its shareholding in the company, require that the company’s MOI or the SHA includes provisions which provide that –

• shareholders shall have the right to request and receive from the board of the company certain agreed upon types of company information (the nature and extent of which should be described the MOI or SHA in adequate detail) which would typically be requested by a third-party purchaser to conduct a legal, financial and tax due diligence on the company, for the purpose of a shareholder sharing such company information with a third-party purchaser, which is not a competitor of the company, as part of a sale process being conducted by a shareholder;

• the provision of such agreed upon company information to the shareholder for purposes of the shareholder sharing same with the third-party purchaser shall be subject to –

a. prior written notification by the shareholder to the company regarding the identity of the third-party purchaser so as to enable the board of the company to satisfy itself that the third-party purchaser is not a competitor of the company; and

b. the conclusion of a written non-disclosure agreement between the third-party purchaser and the company, the terms of which shall be to the reasonable satisfaction of the board of the company.

4. CONCLUSION

As noted above, section 26 of the Companies Act is not likely to provide shareholders with the necessary information rights and the right to disclose company information to third-party purchasers which would enable shareholders and third-party purchasers to effectively conduct a due diligence process.

It is therefore suggested that investors negotiate the inclusion of appropriate information rights and disclosure rights in the MOI or SHA of a private company at the time of making their investment in such company. The inclusion of provisions of the kind described in section 4 of this article would arguably help to achieve a balance between the requirement of a shareholder to be able to access and disclose company information to third-party purchasers as part of a sale process with the requirement of a company to be able to maintain the confidentiality of its proprietary and competitively sensitive information.

It is recommended that shareholders and companies should obtain advice from commercial attorneys who have the necessary expertise to advise on these matters.

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1) the Equity Equivalent Investment Programme (“EEIP”) which allows the local subsidiaries of certain multinationals to score BBBEE ownership points without having an actual black shareholding. Funds are instead contributed to BBBEE initiatives approved by the DTIC. It is not clear if the DTIC will request changes to existing EEIPs to require them to contribute to the proposed Fund or whether contributions to the Fund will only be required for new EEIPs;

2) allowing firms to score Enterprise and Supplier Development (“ESD”) points for the purposes of their BBBEE rating by making a contribution to the proposed Fund. In this regard, the DTIC will amend the current Codes of Good Practice (“Codes”) issued under the BBBEE Act with regard to the measurement of a firm’s score for ESD.

The concept document does not give much detail regarding the proposed amendments to the ESD provisions of the Codes. In terms of the BBBEE Act, any amendments to the Codes must be published by the Minister in the Government Gazette for public comment for at least 60 days.

The current framework for measuring a firm’s ESD score in terms of the Codes involves assessing a firm’s supplier development (“SD”) and enterprise development (“ED”) contributions to firms which are at least 51% black owned and have a total annual revenue of R50 million or less (contributions to firms exceeding such threshold may be recognised for five years if they first received assistance while their annual revenue was under the threshold). A firm’s SD and ED score is measured having regard to targets based on its net profit after tax (2% for SD and 1% for ED). The key difference between SD and ED is that a SD beneficiary is an existing supplier whereas an ED beneficiary is not an existing supplier. The Codes provide that if a firm fails to score at least 40% of all the available points for SD and ED, its BBBEE rating will automatically be downgraded by one level if its total annual revenue exceeds R50 million. ESD accordingly constitutes a key part of determining a firm’s BBBEE rating.

The current framework involves establishing a direct business relationship between the firm seeking ESD points and ESD beneficiaries identified by it. This has several commercial benefits for the beneficiary especially as the Codes contemplate both monetary and non-monetary SD and ED contributions like investments, loans, grants, guarantees, credit facilities, training, mentoring, discounts and other preferential terms with a view to integrating the beneficiary directly into the firm’s supply chain. The contributions are made directly to the beneficiary and generally requires significant time and resources from the firm which develops and implements the ESD program. Significantly, the beneficiary must receive the contributions during the firm’s financial year in order to contribute to the firm’s ESD score for that financial year. This incentivises the quick delivery of contributions to beneficiaries.

The concept document however indicates that a firm could earn ESD points “immediately” by merely contributing to the proposed Fund. This could save the firm significant time and costs if it did not have to implement its own ESD program. The concept document is not clear on this point but states that a “participation agreement” will have to be concluded with the SPV. The terms and conditions of such agreement will have to be carefully considered especially if it seeks to impose obligations in addition to the contribution to the Fund.

The concept document states that contributions to the Fund will generally be exempt in terms of section 56(1)(h) of the Income Tax Act and would qualify for a deduction in terms of section 18(A) of the Income Tax Act. There may accordingly be a tax incentive in contributing to the Fund.

Compliance with the current SD and ED targets in the Codes are not obligatory and ESD points are scored on a pro rata basis having regard to whether or not a firm meets the target. This means that a firm has the flexibility to decide how much to spend on SD and ED (bearing in mind the risk of the automatic downgrade referred to above). It is not clear from the concept document whether a firm’s contribution to the Fund may be less than the target.

The concept document states that a firm may decide whether or not to contribute to the Fund ie contributions will be voluntary. Presumably a firm will be able to choose not to contribute and rather continue with its own ESD program although the concept document is not clear in this regard. Much will depend on the detail of the proposed amendments to the Codes.

The current framework envisages direct business relationships between private sector firms and ESD beneficiaries. The concept document envisages interposing the SPV as a third party between the private sector and ESD beneficiaries. The SPV will collect and distribute funds and implement its own ESD initiatives. This adds complexity to the delivery of ESD contributions to beneficiaries and may adversely affect the benefits for beneficiaries of such direct business relationships.

There are several existing entities and programs tasked with promoting BBBEE and supporting majority black owned and controlled business and small, medium and micro enterprises (SMMEs) including the National Empowerment Fund, the Industrial Development Corporation, the DTIC’s Black Industrialist Scheme, the Small Enterprise Development and Finance Agency (SEDFA) and the Department of Small Business Development. A key question is whether the funds earmarked for the proposed Fund should not rather be provided to existing entities and programs rather than establishing a new entity.

The proposed Fund should operate in conjunction with and supplement (rather than duplicate and overlap with) existing entities and programs. The effect of the Fund on existing ESD programs being implemented by the private sector should also be carefully considered. Ultimately the Fund’s success will depend on its delivery, efficiency, credibility and good governance.

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INTRODUCTION

1. In a landmark step to revolutionise insolvency litigation in South Africa, the Johannesburg High Court has launched a Pilot Dedicated Insolvency Court. Effective from 14 April 2025, this initiative establishes two specialist structures – the Insolvency Motion Court (“IMC”) and the Insolvency Trial Court (“ITC”). The new insolvency court will exclusively manage all insolvency-related applications and trials with the goal of improving efficiency, turnaround times and legal certainty.

PURPOSE

2. This publication outlines the structure, scope, procedures, and timelines associated with the new court. It is intended as a practical guide for practitioners navigating this shift in insolvency proceedings.

THE INSOLVENCY MOTION COURT (“IMC”)

3. The IMC will hear all applications relating to: Sequestration proceedings Rehabilitation proceedings Liquidation proceedings Business rescue proceedings Extension of powers of provisional liquidators Perfection of security (e.g., notarial bonds) Reviews of decisions by the Master of the High Court Interlocutory applications and exceptions in insolvency matters. 4. Enrolments open on 14 April 2025. Hearings commence the week of 12 May 2025. All insolvency matters already enrolled on other motion rolls will automatically be redirected to the IMC. 5. The IMC will follow a 4-week cycle.

6. Urgent applications will only be entertained in exceptional circumstances. The urgent motion court will no longer hear insolvency matters during term time. During recess, the senior judge will decide whether to allocate urgent matters to the IMC or the urgent motion court.

7. To qualify for urgency: Matters must meet standard urgency criteria Interim relief or rule nisi should be sought in the application Papers must be concise and focused

8. Matters that require oral evidence or are too complex or voluminous for the IMC, may be referred to the Deputy Judge President for special allocation. THE INSOLVENCY TRIAL COURT (“ITC”)

9. The ITC will hear trials involving: Impeachment of dispositions Section 424 action proceedings in terms of the Companies Act, 1973; Other actions substantially related to insolvency

10. Parties must ensure the matter is trial-ready in line with practice directives and approach the Deputy Judge President with a motivated request for a trial date. STRATEGIC IMPACT

11. The Dedicated Insolvency Court promises greater speed, efficiency, legal specialisation, and commercial sensibility. It marks a shift towards a litigation environment that recognises the urgency and nuance of insolvency, business rescue and related matters.

12. Practitioners should become familiar with the process and adapt swiftly to leverage this specialised forum for the benefit of their clients.

FLOW CHART INDICATING THE TIME PERIODS IN THE DEDICATED INSOLVENCY MOTION COURT

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1. INTRODUCTION

The Companies Act, No. 71 of 2008 (“the Companies Act“) requires that a private company’s Memorandum of Incorporation (“MOI”) must restrict the transferability of the shares in such a company. This can be achieved through various mechanisms, such as providing for a right of first refusal (“ROFR“) or a right of first offer (“ROFO“) in the company’s MOI. While both of these types of clauses regulate the sale and transfer of shares, they operate differently as regards the impact which they have on (i) the control exercised by remaining shareholders, (ii) the attractiveness of an acquisition of shares in the company for third-party purchasers and (iii) the bargaining power held by the selling shareholder. This article explores how ROFR and ROFO provisions operate, and some of the factors to consider when deciding on which contractual mechanism to include in a company’s MOI.

2. THE MOI OF A COMPANY

In very simple terms, one can think of the MOI as a company’s constitution. It is a binding legal document which, at the very least, sets out the rights, duties and responsibilities of the shareholders, directors and other stakeholders of the company, and regulates the relationship between the company and its shareholders, the relationship between the respective shareholders, and the relationship between the company and its directors.

The importance of the MOIof a company is often overlooked in the early stages of a company, however, a well-crafted MOI can play an instrumental role in carefully balancing the interests of the various stakeholders, mitigating certain risks and facilitating growth and external investment. The decision on whether to include a ROFR or ROFO in the MOI of a company is a strategically important aspect to consider at the outset.

3. RESTRICTION ON THE TRANSFERABILITY OF SHARES

Section 8(2)(b)(ii) of the Companies Act stipulates that the MOI of a private company must (a) prohibit the company from offering any of its shares to the public and (b) restrict the transferability of its shares.

3.1 A right of first refusal

A common contractual provision used in an MOI to restrict the transferability of shares in a private company is a ROFR which is drafted in favour of the remaining shareholders.

The effect of a ROFR is that, should a shareholder wish to sell its shares (“selling shareholder“) and if it has received an offer from a potential purchaser (“third-party purchaser“) on terms and conditions that the selling shareholder is willing to accept (“external offer”), the selling shareholder must first offer its shares to the remaining shareholders in the company (often in proportion to their current shareholding) on the same terms and conditions as those contained in the external offer.

The remaining shareholders will then have a prescribed period during which they can elect to accept or decline the offer from the selling shareholder. If the remaining shareholders accept the offer, then the shares of the selling shareholder will be sold to them on a pro rata basis and the third-party purchaser will be precluded from purchasing those shares. If the remaining shareholders decline the offer from the selling shareholder, then the selling shareholder may proceed to sell its shares to the third-party purchaser on the terms and conditions of the original offer presented by the third-party purchaser.

Even though the inclusion of a ROFR in a company’s MOI is commonplace, and is an acceptable mechanism to limit the transferability of shares in the company, it may deter third parties from undertaking a process to acquire shares in the company. This is so because third parties may be reluctant to expend time, energy and money to do a due diligence on the company and to negotiate a transaction with the selling shareholder if they know that remaining shareholders will have the right to step in and “snap up” their carefully negotiated offer at the end of such process. 

One of the other issues that can arise is that the remaining shareholders may seek to challenge whether the external offer is genuine i.e. the remaining shareholders may assert that the selling shareholder has procured a “non-genuine” external offer with an inflated offer price from a related party or other party, with the aim of achieving a sale to the remaining shareholders at a price which is higher than the fair value of the shares. Such an issue may delay the transaction, result in disputes and ultimately lead to additional hurdles for negotiations between the selling shareholder and the remaining shareholders (on the one hand) and between the selling shareholder and the third-party purchaser (on the other hand).

If the remaining shareholders do not exercise their ROFR, it should be noted that the shares may only be sold by the selling shareholder to the third-party purchaser on the same terms and conditions as the external offer received from the third-party purchaser. The selling shareholder is in a relatively weaker bargaining position because of the manner in which a ROFR operates because a ROFR establishes a price ceiling at the outset (i.e. being the price offered by the third-party purchaser) and the selling shareholder does not have any bargaining power to depart from that price in its dealings with either the remaining shareholders or with the third-party purchaser (in the event that the remaining shareholders do not exercise their ROFR).

A ROFR is a useful mechanism where the remaining shareholders want greater control over ownership, as is often the case with “founder” shareholders. However, as discussed above, it is less advantageous to a selling shareholder whose bargaining power and ability to negotiate and receive more favourable external offers is limited by a ROFR.

3.2 A right of first offer

An alternative to a ROFR, which is an equally acceptable mechanism to limit the transferability of shares in a private company, is a ROFO in favour of the remaining shareholders.

The effect of a ROFO is that should a selling shareholder decide to sell its shares, it must first notify the remaining shareholders of its intention to do so, before seeking any external offers. The remaining shareholders are afforded the opportunity to make offers to the selling shareholder within a prescribed period (“internal offers“), as opposed to affording them an opportunity to react to the terms of an external offer from a third-party purchaser.

If a selling shareholder receives an external offer from a third-party purchaser prior to it commencing a ROFO process with the remaining shareholders, the selling shareholder is typically not obliged to disclose the terms and conditions of such external offer to the remaining shareholders, but may choose to do so to encourage the remaining shareholders to make internal offers at a higher price and on better terms and conditions.

Depending on the wording of the ROFO, it may be that the selling shareholder is not obliged to accept any of the offers made by the remaining shareholders and that the selling shareholder is permitted to “go out to the market” to attempt to negotiate and receive more favourable external offers from third-party purchasers.

A ROFO poses less obstacles for both the selling shareholder and a third-party purchaser. Firstly, because the third-party purchaser does not run the risk of expending time, energy and money on performing a due diligence on the company and on negotiating an offer which may ultimately be snapped up by the remaining shareholders exercising their ROFR. Furthermore, provided that the selling shareholder complies with the provisions of the ROFO, the selling shareholder is free to conduct private negotiations or a competitive bidding process amongst various potential third-party purchasers in such manner as to derive the highest possible price. These characteristics make a ROFO very attractive to private equity investors as it provides for a less restrictive process to achieve the sale of an investment, which is an important consideration for private equity investors who need to ensure that they are able to exit an investment within the time horizons envisaged in their investment mandate.

Therefore, a ROFO allows for increased flexibility during the negotiation process between the selling shareholder and a third-party purchaser, but is less advantageous to the remaining shareholders who have less opportunity to acquire the shares of a selling shareholder and consequently less control over maintaining the shareholding structure of the company. 

4. CONCLUSION

As indicated above, restricting the transferability of shares in the MOI of a private company is a prerequisite in terms of the Companies Act. However, there are different contractual provisions which may be included in the MOI to achieve compliance with this requirement, such as a ROFR or a ROFO. From the perspectives of the selling shareholder, the remaining shareholders and third-party purchasers, each of these have their advantages and disadvantages.

When deciding whether to include a ROFR or a ROFO, a party should therefore consider the factors discussed in this article and should obtain advice from commercial attorneys who have the necessary expertise to advise on these matters.

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This article discusses the judgement of Phoenix Salt Industries (Pty) Ltd v The Lubavitch Foundation of Southern Africa and provides interesting insights into the concepts of waiver and variation of contracts, and how these concepts are relevant to parties to a commercial agreement. In particular, parties to M&A and private equity transactions will find this article to be of interest in how they conduct their contractual relationships.

INTRODUCTION

You will be hard-pressed to find a commercial contract that lacks a non-variation clause – and for good reason. A non-variation clause provides that any amendments made to the contract by the parties will only be effective once the formalities prescribed in such clause for effecting such amendments have been complied with.[1] The formalities usually prescribed in a non-variation clause will be that any amendment to the contract must be (i) reduced to writing and (ii) signed by the contracting parties. The importance of including non-variation clauses in contracts is to prevent unnecessary disputes over whether or not an amendment was agreed by imposing specific formalities, which will provide certainty as to the whether any amendments have been agreed by the parties and as to the contents of such amendments.[2]

An important concept in our law is that of waiver, whereby a party who stands to benefit from a right granted to it can voluntarily choose to abandon such right which the party would have enjoyed had it not elected to waive such right, provided that such waiver is not contrary to public policy or illegal.[3] A waiver can be made expressly (i.e., recorded in writing and signed by the party waiving the right or orally communicated by the party waiving the right to the party who had granted such right) or the occurrence of a waiver may be evidenced through subsequent conduct which is inconsistent with the intention of a party to enforce the relevant right.[4] A right belonging exclusively to one party can be validly waived by that party by verbal communication to the party who had granted such right.[5] However, it is generally accepted that parties go to great lengths to acquire rights and therefore a factual presumption against waiver exists.[6]

This article considers the recent case of Phoenix Salt Industries (Pty) Ltd v The Lubavitch Foundation of Southern Africa[7] (“Phoenix Salt“) which judgment by the Supreme Court of Appeal (“the Court“) offers a response to the legal question: where does variation of a contract end and where does waiver of a right in a contract begin? The distinction is of critical importance for parties to a commercial contract as the manner in which each may be effected and the legal principles applicable to each differ.

FACTS

On 12 August 1994, Phoenix Salt Industries (Pty) Ltd (“Phoenix“), controlled by the Krok Brothers at the time, entered into a written loan agreement with the Lubavitch Foundation of Southern Africa (“Lubavitch“) (“the loan agreement“). Golden Hands Property Holdings (Pty) Ltd (“Golden Hands”), also controlled by the Krok Brothers, signed as surety and co-principal debtor in solidum in respect of Lubavitch’s obligations arising from the loan agreement.

The loan agreement stipulated that the loan was provided by Phoenix to Lubavitch, on the basis that Lubavitch would sell certain properties to the surety i.e., Golden Hands with the purchase price for such properties being equal to the value of the loan amount advanced by Phoenix to Lubavitch. Furthermore, Golden Hands ceded to Phoenix its right to receive the proceeds from Golden Hands’ subsequent sales of cluster houses constructed by it on the properties acquired from Lubavitch, which would by agreement have the effect of decreasing Lubavitch’s indebtedness under the loan agreement.

The loan agreement also inter alia contained the following clauses – 

“9.1 This agreement, together with the annexure thereto, constitutes the sole record of the agreement between the parties in regard to the subject matter thereof.

9.2 Neither party shall be bound by any representation, express or implied term, warranty promise or the like not recorded herein or reduced to writing and signed by the parties or their representatives.

9.3 No addition to, variation or agreed cancellation of this agreement or the annexure thereto shall be of any force and effect unless in writing and signed by or on behalf of the parties.

9.4 No indulgence which either party may grant to the other shall constitute a waiver of any rights of the former.“

The loan agreement had also provided that the loan will become due two years after Phoenix demands payment of the outstanding amount.

More than twenty years after the conclusion of the loan agreement, Phoenix (which at the time was no longer under the control of the Krok Brothers) demanded repayment of the loan on 25 July 2017. However, Lubavitch contended that, during the time that the Krok Brothers had been in control of Phoenix, they had made oral representations to Lubavitch to the effect that Golden Hands would repay the loan to Phoenix and/or that Golden Hands ceded to Phoenix its right to receive the proceeds from the sale of cluster houses which Golden Hands had erected on the properties sold by Lubavitch to Golden Hands to reduce Lubavitch’s indebtedness to Phoenix under the loan agreement. It was contended by Lubavitch that such representations constituted a waiver by Phoenix of its right to recover payment of the outstanding loan amount under the loan agreement. Furthermore, it was contended that while the Krok Brothers were serving as directors of Phoenix, no attempts were made to enforce the loan agreement. Moreover, from 2003 to 2014, it was contended that the loan was not reflected in the financial records of Phoenix. The surviving Krok brother confirmed Lubavitch’s version as set out above.  

In response, Phoenix contended that the representations made by the Krok Brothers did not amount to a waiver of Phoenix’s right to recover the loan amount, but rather that such representations constituted an attempt by the parties to vary the terms of the loan agreement which Phoenix asserted was not a valid amendment of the loan agreement due to non-compliance with the formalities imposed by the non-variation provision in clause 9.3. Phoenix further contended that the representations constituting the alleged waiver fell foul of the requirement that, for a unilateral waiver, the right in question is required to have been bestowed for the exclusive benefit of the waiving party however it was contended by Phoenix that in this instance, Golden Hands (in its capacity as surety) had a material interest in Lubavitch repaying the loan amount to Phoenix.

ISSUE: DID THE REPRESENTATIONS BY THE KROK BROTHERS CONSTITUTE A VARIATION OR WAIVER?

The Court was accordingly tasked with determining two issues: (i) whether Phoenix (as represented by the Krok Brothers) had waived its right to claim the outstanding loan amount from Lubavitch in terms of the loan agreement and (ii) if so, whether the existence of the non- variation clause in the loan agreement nevertheless had the effect of rendering such waiver as being ineffectual in law.

APPLICATION OF THE LAW

The Court first considered the wording of the loan agreement noting that the non-variation clause did not reference the concept of waiver. While the Court notes the existence of clause 9.4, as part of the reasoning for its judgment it does not appear to deal in detail with the impact (if any) of that clause on the evidence and arguments put forward by Lubavitch in respect of the representations constituting the alleged waiver. Instead, it appears that the Court was satisfied that the evidence placed before it by Lubavitch established the existence of the waiver contended by Lubavitch.

The Court examined the extrinsic evidence (i.e., evidence outside of the contents of the agreement) put before it and placed reliance on the following in coming to its judgment: (i) the circumstances giving rise to the loan agreement, (ii) the relationship between the contracting parties and (iii) the representations by the Krok Brothers made pursuant to and during the subsistence of the loan agreement.[8] In this regard, the Court remarked that “…the relationship between the contracting parties is of great significance. Phoenix Salt, through the Krok Brothers, was at all times Lubavitch’s benefactor.”[9]

Having regard to the evidence, the Court was satisfied that the waiver had been established and that such waiver had not been trumped or made void because of the existence of the non-variation clause in the loan agreement. Put differently, the Court held that the non-variation clause in the loan agreement did not preclude Phoenix (represented by the Krok Brothers) from orally waiving its right to demand payment of the outstanding amount under the loan agreement from Lubavitch. In this regard, the Court crisply stated the following –

“The waiver is not a variation of the loan terms requiring it to be in writing and signed by the parties, but rather an abandonment of Phoenix Salt’s unilateral right to enforce repayment.“[10]

“Phoenix Salt’s contention that the non-variation clauses preclude the pleaded oral waiver by the Krok Brothers conflates the distinct legal concepts of variation and waiver. Each of the two doctrines in the law of contract exists to fulfil different purposes. A waiver is an abandonment or relinquishment of a right or privilege in a contract which is expressed through an explicit statement or conduct that indicates a voluntary decision to give up that right or privilege, without modifying the contract’s terms. On the other hand, a variation involves making changes to the terms of a contract, either through mutual agreement between the parties or through unilateral action by one party with the consent of the other. A party exercising a waiver chooses to walk away from a privilege that might have been derived from the contract while the contract remains extant. Whereas, a variation alters or amends the terms of a contract.”[11]

(our emphasis)

Conclusion

The Phoenix Salt case reiterated that waiver and non-variation are distinct concepts in the law of contract. The decision of the Court may also raise concerns for commercial parties because some commercial parties in the position of Phoenix (in its capacity as lender) may have sought to place reliance on the non-waiver clause contained in clause 9.4 of the loan agreement and may have held the view that the existence of such a clause in an agreement would have precluded a counterparty from relying on the existence of a delay by the lender in exercising its right to claim repayment of the loan in question. The judgment also confirms that a non- variation clause in a contract does not preclude a party from relying on and proving the existence of an oral waiver. The above issues suggest that more careful consideration should be given to the so-called “boilerplate” clauses during the drafting of commercial contracts and it highlights the importance of engaging experienced legal advisors to ensure that a party’s interests are adequately protected. For example, the decision of the Court may well have been different if a clause had been included in the loan agreement which imposed a formality that any waiver by a party of any right under the agreement will only be valid and effective if reduced to writing and signed by the party granting the waiver.

[1] See SA Sentrale Ko-op Graanmaatskappy Bpk v Shifren en Andere 1964 4 All SA 520 (A).

[2] See Brisley v Drotsky 2002 (4) SA 1 (SCA) and Yarram Trading CC t/a Tijuana Spur v Absa Bank Ltd 2007 (2) SA 570 (SCA).

[3] See SA Eagle Insurance Co Ltd v Bavuma 1985 (3) SA 42 (A).

[4] See Alfred McAlpine & Son (Pty) Ltd v Transvaal Provincial Administration 1977 (4) SA 310 (T).

[5] Impala Distributors v Taunus Chemical Manufacturing 1975 (3) SA 273 (T). More information on waiver can be found at: GB Bradfield, R H Christie Christie’s The Law of Contract in South Africa 8^th ed (2022). LF van Huyssteen, GF Lubbe et al Contract: General Principles 6^th ed (2020).

[6] GB Bradfield, R H Christie Christie’s The Law of Contract in South Africa 8^th ed (2022) at 533 – 534.

[7] (330/2023) [2024] ZASCA 107 (03 July 2024).

[8] See University of Johannesburg v Auckland Park Theological Seminary and Another 2021 (6) SA 1 (CC) in regard to consideration of extrinsic evidence.

[9] Paragraph 21.

[10] Paragraph 17.

[11] Paragraph 22.

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“Lock-box” mechanism vs closing date account mechanism

Parties to M&A deals usually have a particular price and/or valuation methodology in mind for the acquisition of shares in a target company. To calculate the purchase price, parties may agree to a price determination mechanism, such as the closing date account mechanism or the “lock-box” mechanism. The decision as to which of these to use could depend on a number of factors, including the commercial realities associated with a target company’s business or the industry in which it operates, the identity of the seller or the purchaser (i.e. whether it is a private equity fund), or the preferences of the parties.

Traditionally, the closing date accounts mechanism has been more popular, whereby parties agree to an initial purchase price on the signature date using the most recent financial statements or management accounts of the target company. The initial purchase price is then adjusted after the closing date of the transaction based on the difference between the initial purchase price and the adjusted purchase price as at the closing date (i.e. the “actual” purchase price based on the closing date accounts prepared with reference to the financial position and performance of the target company as at the closing date when the purchaser becomes the owner of the shares in the target company). With the closing date accounts mechanism, the economic interest, being the risk and benefit of the financial performance of the target, passes to the purchaser on the closing date.

The completion of the closing date accounts and determination of the adjusted purchase price may be subject to a dispute between the parties which may need to be referred to expert determination. This can cause delays during the post-closing period and can lead to the purchaser and the management of the target company being pre-occupied with the process of determining the purchase price adjustments, which prevents them from focussing their full attention on managing the business of the target company.

The “lock-box” mechanism addresses this pitfall by providing an alternative price determination mechanism, where the purchase price is based on a historical financial position on an agreed “effective date” rather than the financial position of the target company on the closing date. The purchase price is therefore fixed and final and no provision is made for any price adjustment based on changes to the company’s financial position during the period between the effective date and the closing date. This effective date will typically be the last day of the recent financial year-end of the target company and is often referred to as the “Locked Box Date” or “Warranted Accounts Date”. The purchase price is determined as at the Locked Box Date based on the financial position and performance of the target company as reflected in the audited annual financial statements of the target company for such financial year. With the “lock-box” mechanism, the economic interest (i.e. the risk and benefit in the financial performance) in the shares of the target company passes to the purchaser on the Locked Box Date, despite ownership of the shares only transferring to the purchaser upon the actual transfer of the shares on the closing date.

The parties agree to effectively “lock” the purchase price of the shares based on the target company’s financial position at an agreed historical date.

Concepts used in a “lock-box” mechanism

Given the departure from the traditional pricing mechanism, the following concepts are generally used in a “lock-box” transaction in order to deal with certain risks and issues which are inherent in such a transaction.

• Leakage

Since the purchase price is fixed based on the historic financial position of the target company at the Locked Box Date, the purchaser would want to be protected against a scenario where assets (such as working capital) which underpin that historic valuation (and therefore the purchase price) are “leaked” or disposed of by the target company to the seller or a third party. Examples of these would include dividends, management fees and bonuses or the conclusion of agreements between related parties which would result in payment of money by the target company (“Leakage”). To guard against this, the parties will typically record in their transaction agreement that the seller and the target company shall not allow any Leakages during the period between the Locked Box Date and the closing date.

If it found that a Leakage has occurred, the parties will typically agree that such amount will be deducted from the purchase price which is to be paid by the purchaser on the closing date.

• Permitted leakage

Notwithstanding the prohibition of Leakages, it is usually necessary for the parties to agree that certain types of Leakages are permissible (“Permitted Leakages”). Certain examples of Permitted Leakages include certain related party transactions which are viewed by both parties as being for the benefit of the target company or which have regularly occurred in the ordinary course of business between the target company and the seller.

Both parties would want to ensure that the agreement clearly describes what constitutes Permitted Leakages because such transactions would not be deducted from the purchase price.

• Interim period undertakings

Due to the fact that the risk and benefit in the shares of the target company passes to the purchaser on the Locked Box Date, it could be said that the seller is “effectively” operating the business of the target company at the risk and benefit of the purchaser during the period between the Locked Box Date and the closing date (“Interim Period”). In order to adequately protect the purchaser during the Interim Period, the purchaser will typically require that the seller and the target company agree to various undertakings (“Interim Period Undertakings”) in regard to the operation of the business of the target company during the Interim Period. Some examples of Interim Period Undertakings which may be included in the transaction agreement are undertakings that the target company will not –

• incur capital expenditure which is not contemplated in the target company’s existing budget;
• encumber any of the assets of the target company;
• conclude any transaction which is not in the ordinary course of the target company’s business (having regard to, for example, the nature and size of transactions concluded during the 12-month period prior to the Locked Box Date);
• modify any rights attached to the shares of the target company or create or issue any new shares or classes of shares.

When formulating Interim Period Undertakings it is important to seek advice from a competition lawyer to ensure that the Interim Period Undertakings do not go further than protecting the purchaser’s interest in maintaining the value of the subject matter of the transaction, i.e. the value of the shares in the target company. Where a transaction requires the approval of the competition authorities before it is implemented, the parties may not grant the purchaser the ability to control or influence the operation and management of the target company’s business prior to merger approval being granted. Therefore, it is important to ensure that the scope of the Interim Period Undertakings do not result in the conferring of such control to the purchaser, otherwise the parties may be at risk of the competition authorities’ finding that the parties have “jumped the gun”. An example of an Interim Period Undertaking which could give rise to a pre-implementation risk would be where the target company undertakes not to amend its pricing and marketing strategies without the prior input or consent of the purchaser.

Advantages of the “lock-box” mechanism

The “lock-box” mechanism provides price certainty, which is useful for private equity funds who need to know the amount of funds to be drawn from their limited partners or who need to exit an investment at a certain return. It also ensures a “clean” exit, as no further price adjustments are required after implementation, as opposed to the closing date account mechanism.

Moreover, the mechanism frees up management of the target company to attend to post-closing transition of ownership and the running of the business (as opposed to being involved in determining adjustments to the purchase price in terms of the closing date accounts mechanism).

Potential pitfalls to keep in mind with “lock-box” mechanisms

The “lock-box” mechanism requires the purchaser to place greater reliance on its financial due diligence of the target company, which means that significant time and cost will usually need to be incurred in order to give the purchaser the necessary “comfort” that it is paying the correct purchase price.

There is the possibility that the purchaser may pay too much or too little for the target company, when compared to the financial position of the target company on the closing date (when the ownership of the shares are transferred) due to the fluctuation in the financial performance of the target company during the Interim Period which may not have been in the contemplation of the parties when concluding their agreement. The risk of this disconnect between the purchase price paid and the value of the target company is exacerbated where there is a long Interim Period.

Conclusion

A party who is considering a “lock-box” transaction for its price determination mechanism in an M&A or private equity transaction, should seek legal advice to ensure that it is adequately protected and has a complete understanding of the various considerations which impact on these types of transactions.

Please note that this article is intended for information purposes only and should not be considered legal advice. This article is not comprehensive exposition of all of the issues, risks and considerations which apply to “lock-box” transactions.

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South African corporates continue to face significant challenges in surviving economic constraints and turmoil in the market place. Looking at recent fallout in South Africa, we have seen major filings for business rescue by Tongaat Hulett, the South African Post Office and Ellies Electrical. Liberty Coal purchased Optimum Coal out of business rescue in March this year. Nampak is going through an informal restructuring process and appointed a CRO (a Chief Restructuring Officer) to manage its turnaround process. Liquidations remain on the increase, with the latest victim being Habib Overseas Bank.

With ever increasing economic pressure (both in South Africa and globally), we continue to see companies in South Africa being left with little choice but to consider either a business rescue or an insolvency process.  The cost of trading in 2024, caused by the ongoing pressure of sustained loadshedding, is impacting companies in just about every sector of the economy. StatsSA recently reported that 138 companies were placed into liquidation in South Africa in March 2024, and where financing, insurance, real estate and business services led the charge (at 46 companies) followed by trade, catering and accommodation (33), followed by manufacturing (5) and construction (3). It has further been reported that South Africa’s SOEs remain financially distressed, with Eskom posting annual losses of more than R20 billion in the last 7 years, followed by SAA, Prasa, the SABC, PetroSA and Denel, all having consistently performed in a loss making position. Clearly financial distress remains agnostic and cuts across all sectors of the economy.

With all of this turmoil raging around our economy, South African companies are fortunately able to turn to a pool of significantly skilled restructuring and business rescue practitioners to assist in alleviating financial distress and thereby promoting the rescue of struggling companies. These practitioners have the tools provided by the South African Companies Act, 2008 as well as the Insolvency Act, 1936 at their disposal.

Restructuring tools are diverse and focus on bringing rampant debt under control, decreasing costs and overheads, alleviating ongoing pressure from creditors caused by weak cash flow and reorganising the manner in which distressed companies trade. This might also include an urgent requirement to reconfigure management, the board of directors and employees. The ability to renegotiate onerous (and prejudicial) contracts also remains an option, especially in a (formal) rescue scenario.  These restructuring tools remain varied and adoption and implementation will depend on the company, the nature (cause) of the distress and the attitude and level of support of stakeholders, especially that of the financial institutions exposed to the distressed company. 

Insolvency professionals need to adopt a holistic approach to dealing with the issues and root causes for the company’s position of distress and decide on the most effective tool to be adopted in the peculiar circumstances facing the distressed company. These may include an  informal restructuring (solvent restructuring), a business rescue process or an insolvency/liquidation process.

Insolvency professionals must recognise that in order to add real value to the restructuring process they will need to become aware of and bring themselves up to speed in respect of all restructuring disciplines (as mentioned above) and in order to become effective “corporate doctors”.

One cannot practice in this area of speciality without being in touch with and understanding all of the mechanics and tools of restructuring companies in distress. This includes the informal restructuring process (the solvent restructuring), the makeup and mechanism of the section 155 compromise procedure, all of the business rescue mechanisms and workings of Chapter 6 of the Companies Act, and the intricacies and machinery of the insolvency process. For example, an understanding of the comparison between a business rescue dividend as opposed to a liquidation dividend is an essential factor in being able to decide which way the restructuring process should unfold. Having a multi-faceted approach to the tools available and being able to call on these skills at any time (depending on the situation faced) can only improve better outcomes for companies in financial distress. Adopting a one-dimensional approach does not provide value to the board, the company, the creditors or the employees of the distressed entity. In corporate South Africa, it is vitally important that stakeholders can recognize a multiple skill set on the part of insolvency practitioners and where the practitioner is skilled in all disciplines in order to be able to successfully restructure, rescue or wind up the company for the benefit of all affected persons.

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With looming elections now scheduled for 29 May 2024, persistent loadshedding, elevated interest rates and recent tax hikes in an already battered economy, businesses in South Africa are now confronted with escalating pressures and uncertainty. As continued financial pressure is brought to bear on corporate South Africa, there is no doubt that we are going to see an escalation in companies having no alternative, but to consider a formal business rescue process, or alternatively liquidation. It is inevitable that companies will continue to grapple with financial distress, necessitating the initiation of either an informal restructuring process or formal business rescue proceedings.

Business rescue proceedings are not limited to any particular sector, and filings can occur across various industries and sectors. According to CIPC’s recent status report released in February 2024, there was a significant uptick in manufacturing entities initiating business rescue proceedings in the final quarter of 2023. 17% of the entities that commenced business rescue proceedings between October 2023 and December 2023 were in the manufacturing industry, with the agriculture, forestry and fishing industry following closely with 13.2% of filings.

In the latter quarter of 2023, a pronounced number of entities in the mining sector commenced business rescue proceedings after having determined that they were financially distressed.

Pressure in the mining sector was also highlighted at the recently convened 2024 Mining Indaba in early February, and where attendees were apprised of a grave issue confronting the industry: namely a significant deficiency in skilled labour. This critical shortfall of a pool of workers to service the mining industry, has been identified as a primary impediment hindering the mining sector’s operational efficiency into 2024. Opening the Mining Indaba, President Cyril Ramaphosa highlighted several obstacles hampering the mining sector’s performance. He recognised that alongside the talent shortage, energy deficits and transportation demands were also of paramount concern. These challenges may explain the concerning trend of mining entities commencing business rescue in 2023.

A prominent player in the global trade credit and potential risk arena, Allianz Trade, has issued a cautionary statement highlighting the substantial barrier to economic growth posed by South Africa’s continuous energy crisis. In 2023, the lack of reliable electricity supply emerged as one of the most costly challenges for businesses, a trend expected to persist and potentially worsen in 2024. The debilitating rotational power outages are unlikely to be resolved within the coming 12 months, despite promises from the government to expedite resolution.

For financially distressed companies grappling with these challenges, opting for business rescue remains an attractive alternative as opposed to outright liquidation. Business rescue proceedings were introduced in South Africa by the Companies Act 71 of 2008, which came into force in 2011.The aim of business rescue is to restructure the affairs of a financially distressed company in such a way that maximises the likelihood of the company continuing in existence on a solvent basis. If this cannot be achieved, the secondary objective is to restructure the business to yield better returns for the creditors or shareholders of the company than would ordinarily result from immediate liquidation.

The rehabilitation of a financially distressed company is facilitated through the temporary supervision of the company, and the management of its affairs, business and property by a business rescue practitioner. It is the responsibility of the business rescue practitioner to develop and implement a business rescue plan. If approved, this plan aims to rescue the company through the restructuring of its business, property, debt, affairs, other liabilities and equity.

A further consequence upon commencement of business rescue proceedings is the temporary moratorium (stay) on the rights of claimants against the company or in respect of property in its possession. The purpose of the moratorium is to grant companies temporary ‘”immunity” from legal proceedings initiated by creditors for claims that would otherwise have been due and actionable.

The yardstick for determining whether a company should undergo business rescue proceedings is whether or not the company is financially distressed. In terms of section 128(1)(f) of the Companies Act, a company will satisfy the financial distress test if:

• It appears to be reasonably unlikely that the company will be able to pay all of its debts as they become due and payable within the immediately ensuing 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).

Section 7(k) of the Companies Act provides that among the objectives of the Act is the aim to ‘provide for the efficient rescue and recovery of financially distressed companies, in a manner that balances the rights and interests of all relevant stakeholders. So in having introduced business rescue in 2011, South Africa made a marked shift from a liquidation-orientated culture to one of business rescue, with the aim of reintegrating financially distressed companies into the market on a solvent basis.

The recent CIPC status report reveals that of the entities that terminated business rescue proceedings in the final quarter of 2023, 36% were successfully rescued as a result of substantial implementation of the business rescue plan. This is a very positive statistic and one which supports the business rescue process in South Africa. The resulting effect is that these rescued companies are returned into the SA economy on a solvent basis and where these entities would be ready to continue to trade with suppliers and consumers.

30% of financially distressed companies could not continue in existence on a solvent basis, and filed for liquidation in the fourth quarter of 2023. South Africa has witnessed 109 businesses close down in the first month of 2024. According to Stats SA’s statistical release on liquidations dated 26 February 2024, there was a 34.6% increase in the total number of liquidations in January 2024, as compared to January 2023. The majority of liquidations were voluntarily commenced, but 11 of the 109 were placed into liquidation by compulsory applications to court. 28.4% of the entities that were liquidated in January this year were in the financing, insurance, real estate and business services sectors, followed by 15.5% in the trade, catering and accommodation sector.

The key to effectively rehabilitating a financially distressed company (and avoiding liquidation) lies in commencing business rescue proceedings at the earliest indication of financial distress, within the meaning of the Companies Act. If the company has progressed too far along the path of financial distress, the only remaining option may very well be liquidation through the sale of assets, subsidiaries, and businesses to external buyers. If entities delay taking action and only pursue business rescue when the company is already deeply entrenched in financial distress, the prospects of successfully implementing an operational/financial restructuring in the business rescue process becomes limited and difficult to achieve.

To maintain and ideally increase the 36% success rate of rescued companies, the crucial factor will always be early intervention. Directors of companies must buy into the notion that appointing a practitioner to oversee the company as early as possible in its distressed phase, will enable proactive measures being taken to achieve a return to solvency through a successful business rescue process. This approach facilitates the rescue of the business, thereby preserving the majority of jobs, which will allow companies to embark on a process of a ‘fresh start’, and which averts the negative outcome of full-blown liquidation process.

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The courts have held that at times when agreements are being interpreted, the proper meaning of words may initially appear to be ambiguous, ill-defined or otherwise vague, however when such words are considered within their context, against the background to which transaction applies or even when linked by relevant admissible evidence, the proper meaning of the words often emerges.

For the purposes of this article, the question answered by the Supreme Court of Appeal of South Africa (“SCA“) was whether the omission of the annexures to the agreement renders such agreement incapable of implementation.

In the case of Gandhi v SMP Properties (Pty) Ltd 1983 (1) SA 1154 (D), the court observed that “It is notorious that the confusion experienced by, or the host of  possible alternatives foreseen by, a party seeking to resile from an agreement can at times be exaggerated and unreal“.

A recent SCA decision in G Phadziri & Sons (Pty) Ltd v Do Light Transport (Pty) Ltd and Another (765/2021) [2023] ZASCA 16 (20 February 2023) considered the question in the title of this article.

In this case, the appellant, Phadziri & Sons (Pty) Ltd (“Phadziri“), and the first respondent, Do Light Transport (Pty) Ltd (“Do Light“), are bus service companies offering public transport services in the Vhembe district of Limpopo.

Phadziri is the holder of a number of licences in respect of specific routes, issued to it by the second respondent, the Limpopo Department of Transport (“LDT“). Around September 2010, Phadziri was unable to offer effective and reliable public transport services as required in terms of the licences due to its aging bus fleet and other problems.

As a result, on or about 23 September 2010, Phadziri, Do Light and the LDT concluded a tripartite agreement in terms of which, in summary, Do Light would be Phadziri’s sub-contractor for the performance of road public passenger services in certain routes and Phadziri ceded the licences pertaining to the affected routes for the duration of the agreement to Do Light (the “Tripartite Agreement“).

As to its duration, the Tripartite Agreement would “terminate when integrated public transport services are introduced for the Vhembe District of the Limpopo Province“.

For about eight years, the Tripartite Agreement was implemented without any problems.

However, towards the end of September 2018, Phadziri asserted that the Tripartite Agreement had terminated on the basis that the agreement was void for vagueness, alternatively that a tacit term should be read into it as to its duration to remedy the perceived vagueness.

In support of its contentions, Phadziri relied on the fact that two documents referred to as annexures in the Tripartite Agreement were not attached to the agreement.

These annexures refer to a timetable in terms of which Do Light would operate its busses on the affected routes. Therefore, because of this omission, Phadziri asserted that the routes which it had ceded to Do Light in terms of the Tripartite Agreement could not be identified.

Do Light rejected Phadziri’s assertion pointing out that the Tripartite Agreement would only terminate upon the implementation by the LDT of the integrated public transport services.

The High Court as the court of first instance rejected Phadziri’s two-pronged submissions and declared the Tripartite Agreement was valid and enforceable until the introduction of the integrated public transport services by the LDT, or until it was lawfully terminated. In appeal in the SCA, Phadziri persisted with these submissions.

The SCA acknowledged that it is trite that a provision in a contract must be interpreted not only in the context of the contract as a whole, but also to give it a commercially sensible meaning. This principle requires a court to construe a contract in context, within the factual matrix in which the parties operated when the contract was concluded.

The SCA pointed out that clauses in an agreement in which the annexures are mentioned should not be read in isolation, but as part of the whole agreement.

Furthermore, in Genac Properties JHB (Pty) Ltd v NBC Administrators CC 1992 (1) SA 566 (A), the court held “our law inclines to preserving, instead of destroying, a contract which the parties seriously entered into and considered capable of implementation“.

Considering the facts of this case, the SCA held when the Tripartite Agreement was concluded, Phadziri must have had a timetable used in conjunction with its licences and therefore knew the origin and destination points of the routes when the licenses where ceded to Do Light.

It is now contrived for Phadziri to suggest that the routes were not known, because the timetable was not attached to the Tripartite Agreement. It is undeniable that Do Light came to the rescue as a sub-contractor (of Phadziri, being unable to deliver the affected services), to avoid the collapse of public road transportation services on the affected routes.

The SCA explained there is established authority for the subsequent conduct of the parties in implementing an agreement to be a factor to be considered to provide clear evidence in preferring one interpretation to another.

In answering the question in the heading of this article, the SCA held that the Tripartite Agreement should be preserved and enforced. There was no doubt that the parties entered into the Tripartite Agreement considering it capable of implementation and having regard to the relevant context, irrespective of whether there is a perceived ambiguity or not.

The SCA held the manner in which the parties to the Tripartite Agreement conducted themselves in implementing the agreement was relevant to the determination of whether the parties understood their obligations despite the missing annexures.

The SCA concluded that the court of first instance was correct in holding that the Tripartite Agreement is not void for vagueness. The SCA also rejected Phadziri contention that a tacit term should be read into the Tripartite Agreement that its duration was terminable on reasonable notice after eight years, a term that would be in conflict with the parties’ express agreement as to its duration.

Notwithstanding the above, it is preferable for parties, prior to concluding an agreement, to ensure that all information and provisions governing such an agreement are actually included and/or annexured in such agreement prior to its signature.

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