In late June 2004, the Department of Trade and Industry ("dti") published a policy framework of the proposed amendments to the Companies Act ("the Act"). Save for a few piecemeal amendments, the Act has seen little change since its enactment in 1973. As a result, our legislation has fallen behind international trends in company law, and no longer caters for our changed political, economic and social environment. Certainly, with the adoption of the principles of the 2nd King Report on corporate governance by corporate South Africa, there has been a renewed call for a more legislated framework.
The policy has been published with the purpose of eliciting feedback from stakeholders in government and in the public. Dti has conducted a roadshow to workshop the policy, current legislation and international best practice with foreign and local experts throughout the country, as part of the next step in the process, which is to prepare a memorandum for the drafter of the new legislation. This means that the policy as currently published is a very fluid document, and the proposed changes are by no means cast in stone.
In general terms, the policy is based on 4 main principles:
- The endorsement of the trend that has developed in recent years that a company be run not only in the interests of shareholders, but all groups affected by the company’s activities, including employees and creditors. It is suggested that the new provisions should acknowledge the interests of these stakeholders by way of a combination of statutory and voluntary measures.
- While the new law should be comprehensive, forming one reference source, it should be in simple language.
- The emphasis will be on transparency and accountability, specifically disclosure of information and prevention of fraud and improper conduct.
- The new law should be in line with company legislation in place in other countries, including the SADC area, in order to facilitate foreign investment and aid the interpretation and development of the law by drawing on international practice and precedent.
In accordance with these principles, dti’s proposals for change are loosely grouped in the following specific themes:
- Company Formation
- Corporate Finance
- Corporate Governance
- Mergers and Takeovers
- Administration and enforcement
- Insolvency and corporate rescue
Recognising the important role of the corporate entity within the formal economy, both in facilitating access to capital and in driving growth and development generally, the dti policy has as one of its basic principles the simplification of company formation.
The stated ideal is to arrive at a system where a layperson can form and maintain his or her own corporation and thereby acquire the benefits of limited liability and preferred tax treatment.
The challenge will surely lie in balancing the imperatives of simplicity and flexibility with the need for certainty and a minimum of information disclosure. It is envisaged that technology will play a larger role in achieving this balance through electronic registration and information reporting.
The dti's apparent point of departure is to introduce a single "one kind fits all" corporate entity, thereby removing the distinction between close corporations, private companies and public companies. Companies will then be distinguished on the basis of size of turnover rather than shareholding, which the dti feels is artificial and limits the opportunity to progress and grow a business.
In order to cater for the specific needs of entrepreneurs at different levels of operation, it is proposed that while certain mandatory provisions will apply to all companies, flexibility will be ensured through the introduction of optional rules and default provisions if no election is made. Provision could also be made for the opting-out of certain mandatory rules by, for example, holders of 90% of the shares. Once again, the size of a company's turnover may be the best way to initially determine which set of mandatory rules will apply to it, so that smaller entities will be subject to less obligations. Additional rules will be applicable to listed companies, to protect the large number of shareholders that have little say in the running of the company.
Also to be considered will be an appropriate approach to section 21 (non-profit) companies and the registration of foreign companies in South Africa. In the latter case, one possibility will be to adopt a system of reciprocity or accreditation between different jurisdictions with acceptable governance and regulatory regimes.
The mechanisms for and rules relating to the financing of companies has been identified by the dti as a core area for review. dti appears particularly focussed on the rules relating to the issue of shares and maintenance of capital, where the challenge will be to ensure that investors, shareholders and creditors are protected while maximising the ability of companies to attract capital.
With regard to the issuing of shares, the dti has questioned the relevance of the par value system, together with the related concepts of stated capital and share premium, on the basis that this is an anachronism that artificially detaches the shares from their real economic value. Also for consideration will be whether existing shareholders should benefit from a mandatory right of pre-emption to prevent the dilution of their shares; the extent to which directors should be allowed to issue shares; and the possible abolishing of nominee shareholding. It is also clear that any rules in relation to issuing of shares will need to take into account new technology (where electronic registers and dematerialised shares may simplify the process, particularly in listed entities with highly liquid securities) as well as other securities law legislation.
With regard to capital maintenance, a careful examination of the rationale behind traditional prohibitions and restrictions on, for instance, share buy-backs, distributions to shareholders and the provision of financial assistance by a company to its own shareholders will be undertaken. It has been suggested that the adoption of a US style "balance-sheet and liquidity test", coupled with shareholder approval, may be a better way to regulate a company's use of its equity than a strict reliance on minimum capital maintenance. In terms of the US-based test, a company is entitled to make distributions provided that the company remains able to pay its debts as they fall due (the liquidity test) and its assets continue to exceed its liabilities (the balance-sheet or solvency test). If this is adopted in our law, the rules relating to share buy-backs, redemption of shares and even the much-maligned section 38 prohibition on financial assistance by a company for the purchase of its own shares may become far simpler in future.
The lack of shareholder activism in South Africa has long been a thorn in the side of good corporate governance, and the policy's main aim is to create an environment more conducive to direct accountability.
It is no surprise that the policy suggests a codification of the common law duties of directors as well as the accepted practices that have developed from the 2nd King Report. However, while this could be achieved in general terms, a detailed explanation of how the duties of directors, such as that of care, skill and diligence are to be performed can't, and indeed shouldn't, be set in stone, as there is an overriding need to adapt such duties to the changing mores of business. Currently, dti is ambitiously planning to include in such codification the standards developed in case law from various jurisdictions.
In looking at other jurisdictions, dti has confirmed that the unitary board structure currently adopted in South Africa will be maintained rather than the two-tier structure in countries such as Germany. There will be a move to adopt similar provisions to those contained in the UK's Disqualification Act, in order to expand the grounds upon which directors can be disqualified from holding such office, and to prescribe mandatory training and accrediting of directors. dti is also considering the universally debated question of whether directors should be indemnified or insured against personal liability. This would appear to fly in the face of dti's stated principle of accountability, but other jurisdictions such as Australia and the United States of America have recognised that business growth requires an element of risk, and directors must not be inhibited from taking such risks. dti's stated concern is more that the increased scrutiny of directors will deter highly qualified persons from accepting directorships, and suggests that shareholders be given the power to exculpate their directors from liability for anything other than gross misconduct.
While dti proposes protecting the interests of non-shareholder stakeholders (such as employees and creditors) by way of mandatory disclosure and reporting on compliance with legislation as well as financial information, it confirms that it is the equity investors who are at the highest risk and who should enjoy primary protection. The current thinking is that, in furtherance of this aim, the law should define the ambit of a shareholder's basic rights, including the circumstances in which minority shareholders should take action against the company or its directors.
dti will seek to ensure that the rules relating to the take-over of companies strike a balance between the interests of the parties involved and the integrity and smooth functioning of the market. It is envisaged that take-over regulation should remain the responsibility of the Securities Regulation Panel (SRP) in accordance with the Takeover Code, with any changes to be in line with international best practice.
It will also be necessary to harmonise the interrelation between company law and competition law in respect of mergers and take-over, to avoid a perceived compliance burden on companies undergoing a change of control. Consideration will be given to incorporating both the commercial and competition aspects of a take-over within a single adjudicative process, so that an expanded Competition Tribunal and Appeal Court will deal with all aspects of merger regulation.
Finally, dti points out that current company law does not adequately provide for mergers in the true sense, that is, where one company is fully absorbed into another, with the assets and liabilities of the former becoming those of the latter and with the former ceasing to exist. Current law requires the transfer of assets, for instance by way of a scheme of arrangement, from on company to another. The review will include an investigation as to whether mechanisms might be created for the melding of companies.
The ongoing complaint about the principles of corporate governance is that they are not enforceable, and that the existing mechanisms for shareholder protection are flawed. dti proposes to replace the existing criminal penalties (which are so dated that they pose no threat at all) with a combination of criminal, civil and administrative remedies to be meted out by a central body ("Companies and Intellectual Property Commission") mandated by the state to monitor, investigate and enforce compliance with the company law. The precise nature of the penalties is yet to be developed.
It is proposed that distinctions will be drawn between companies on the basis of turnover for the purposes of information reporting, with smaller companies having a lesser obligation in this regard.
On the administration side, the abovementioned Commission will also have the role of facilitating registration of companies in more efficient and cost-effective way, while ensuring the dissemination of relevant information to the general public. dti sees this body as also being responsible for educating the public and increasing shareholder activism, while contributing to amendments and reviews of the company law in order to keep it abreast of international practice and market developments.
A Companies Tribunal is suggested as the body to adjudicate certain commercial matters, rather than the High Court and Supreme Court of Appeal. It is in even proposed that this body be merged with the current Competition Tribunal and Appeal Court, since there is a perceived synergy between competition law and company law.
Mirroring the aims of the proposed draft Insolvency and Business Rescue Bill, the policy focuses on the conduct of liquidators, and proposes to regulate their accountability and qualifications. Suggestions are also made that the procedures in applying for liquidation and winding-up need amendment from a technical point of view.
The failure of the current judicial management system, which seldom results in the revival of a struggling business, is acknowledged, and consideration is given to the Chapter 11 provisions of the United States of America. Certainly, the qualification of judicial managers, the high costs of the procedure and the lack of emphasis on remedial action are reason enough to revamp the prevailing system.
The optimistic deadline for submission of the new legislation for parliament approval is January 2006. Much research, review and consultation is required before then, and it will be interesting to see how much of the proposals set out above make it through to the next round, and how the specific detail is crafted. Without doubt, an exciting time awaits corporate South Africa, and the sooner it can start addressing the precise changes, the easier the transition to the new world will be.
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