South Africa: Suretyships And Business Rescue

Last Updated: 10 January 2012
Article by Alex Eliott

When a company is placed under business rescue, the question arises as to the enforceability of a suretyship given for the debts of or by the company.

As far as the company itself is concerned, the question is easily answered. Section 133(2) of the Companies Act 71 of 2008 (the Act) provides that:

"During business rescue proceedings, a guarantee or surety by a company in favour of any other person may not be enforced by any person against the company except with leave of the court and in accordance with any terms the court considers just and equitable in the circumstances."

One would therefore hope that if a creditor seeks to enforce a deed of suretyship, the appointed business rescue practitioner will take the necessary steps to ensure that the best interests of the company as a whole are protected, even if this means opposing the enforcement proceedings. Without being prescriptive, in most instances it will not be in the best interests of the company as a whole to be forced to pay out under a guarantee or suretyship while business rescue proceedings are pending.

The position is not quite as clear when one considers the rights and interests of a person who has given a suretyship for the debts of the company under business rescue. The plain wording of section 133(2) of the Act clearly restricts the application of that subsection to the company itself, and does not protect third parties. Furthermore, it can be stated as a general principle that the status of the principal debtor (for example a company under business rescue or winding up) does not offer a defence to the surety, because the underlying debt is not affected by a change in status of the principal debtor. In theory this means that the creditor can enforce any suretyship for the debts of a company under business rescue against the surety/ies. It is already becoming commonplace in commercial practice for deeds of suretyship to contain a standard clause providing that if the principal debtor is placed under business rescue, this constitutes an event of default which justifies the creditor in enforcing the suretyship.

The position of a surety has to be considered carefully by the appointed business rescue practitioner. This is because if a surety pays under the suretyship such payment does not constitute a "free pass" to the company. Since the surety has a right of recourse against the principal debtor for any amounts which he, she or it has to pay out on the company's behalf, the payment by a surety of the underlying debt to the creditor will merely result in an exchange, from the company's perspective, of one creditor (the original creditor) for another (the surety). The overall financial position of the company will not improve.

For this reason a practitioner will be well advised to make specific provision for suretyships in the business rescue plan. It will be appreciated that the business rescue plan may include (and in most cases will include) a compromise of the company's debts – see section 154 of the Act. If for example the business rescue plan provides that the principal debt may be paid off by the company in monthly instalments or even if the principal debt is reduced, this would constitute a compromise of the underlying debt which would benefit not only the company under business rescue, but also the surety.

In summary therefore, the best interests of the surety would be served by avoiding payment for as long as possible in the hope that the business rescue plan will provide for a compromise of the underlying debt. By contrast, the best interests of the creditor would be served by attempting to enforce the claim against the surety as quickly as possible, before the underlying debt can potentially be compromised by a business rescue plan. Finally, the best interests of the company would generally be served by compromising the principal debt, in such a manner that is neutral as between the interests of the principal debtor and the surety/ies, but serves the best interests of the company as a whole.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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