CIPC will not exercise its power to stop temporarily insolvent companies from carrying on business or trading

CIPC will not exercise its power to stop temporarily insolvent companies from carrying on business or trading
13 Jul 2020

On 24 March 2020 the Companies and Intellectual Property Commission (Commission) issued Practice Note GNR 351 (Practice Note) in which it advised that in light of the Covid-19 pandemic and the declaration of a national state of disaster under the Disaster Management Act, 2002, it will not invoke its powers under section 22 of the Companies Act, 2008 (Companies Act).

In terms of section 22(1) of the Companies Act, a company is prohibited from carrying on business recklessly, with gross negligence, with the intent to defraud any person or for any fraudulent purpose. Section 22(2) of the Companies Act empowers the Commission, where it has reasonable grounds to believe that the company is either –

  • unable to pay its debts as they become due and payable in the normal course of business; or
  • carrying on its business recklessly, with gross negligence, with the intent to defraud any person or for any fraudulent purpose,

to issue a notice to the company to show cause why it (the company) should be permitted to continue carrying on its business, or trade.

The company must pursuant to the receipt of the Commission’s notice, show the required cause within 20 business days. If the company fails to do so, the Commission may issue a compliance notice to the company, requiring it to stop carrying on business, or trade.

The provisions of the Practice Note only relates to the first condition of section 22(2), in that it only applies where a company is still carrying on its business, or trading while being unable to pay its debts as they become due and payable within the normal course of business. The purpose of the Practice Note is presumably to provide some relief to companies that are finding themselves in challenging financial conditions due to the declaration of the national state of disaster and the subsequent lockdown that has impacted negatively on their ability to carry on their business or trade and to allow them an opportunity to trade themselves out of their commercial insolvency.

Companies should, however, note that –

  • the reference to a company’s inability to pay its debts as they become due and payable in the normal course of business under section 22 of the Companies Act must not be confused with the similar requirement when the solvency and liquidity test in terms of section 4 is applied, where a company makes a distribution. The requirement in terms of section 46 of the Companies Act that a company must apply the solvency and liquidity test where it makes a distribution (which includes satisfying itself that it will be able to pay its debts as they become due in the ordinary course of business for a period of 12 months after the test is considered, or after the distribution is made), has not been altered by the Practice Note and remains a requirement that must be complied with at all relevant times;
  • where a company carries on business recklessly, with gross negligence, with the intent to defraud any person or for any fraudulent purpose, or where the company’s temporary insolvency is caused by any circumstances other than the declaration of a national state of disaster and subsequent lockdown, the Commission will still continue to act as such against the company under section 22 and issue a compliance notice where necessary;

The relief provided in terms of the Practice Note does not seem to have any effect on the impact of section 218(2) of the Companies Act. Section 218(2) provides third parties with a right of recourse against “any person” (which includes the company, its directors, officers, employees, and the like) who contravened any provision of the Companies Act that caused the third party to suffer damages. The relief further also does not seem to detract from a director’s personal liability in terms of section 77(3)(b) of the Companies Act, which provides for a claim against the directors of the company by or on behalf of the company for losses sustained by the company as a direct or indirect consequence of the director(s) having participated in the carrying on of the company’s business despite knowing that it was being conducted in a manner that is prohibited by section 22(1). It is conceivable, however, that the provisions of the Practice Note may perhaps constitute some sort of defense against claims in terms of sections 218(2) or 77(3)(b).

The provisions of the Practice Note will be effective for the duration of the state of national disaster, and for a period of 60 days after the declaration thereof has been lifted.

See also:

(This article is provided for informational purposes only and not for the purpose of providing legal advice. For more information on the topic, please contact the author/s or the relevant provider.)
Zelmaine van der Westhuizen
Zelmaine van der Westhuizen

Zelmaine van der Westhuizen is a Director in GMI’s Corporate and Commercial Department. Zelmaine joined GMI as a Candidate Attorney in 2004, and was admitted as an Attorney in 2005,...

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