Part 3: My general knowledge, skills and experience of running a company need work, but I’m already in the hot seat making decisions…

Part 3: My general knowledge, skills and experience of running a company need work, but I’m already in the hot seat making decisions…

This article is the last in our three-part series on company directors.  As we’ve discussed in the previous articles, directors have several duties, namely:

  • to act in good faith;
  • to avoid conflicts of interests;
  • to act for a proper purpose; and
  • to act in the best interests of the company.

In this article we will discuss how each of these duties are qualified by the fact that directors, in the course of carrying out their duties, can only be expected to act with similar care, skill and diligence that would reasonably be expected of a person carrying out the same functions in relation to the company as those carried out by that director, having a similar level of general knowledge, skill and experience of that director.

The starting point is that all directors are expected to carry out their duties honestly, in good faith and for a proper purpose, without exception. However, the yardstick used to assess whether each duty was carried out effectively will differ on a case by case basis. This assessment will be dependent on the general knowledge, skill and experience of that particular director. This means that your actions as a director will effectively be tested in light of your ability and your knowledge of the company and how it operates.

On that basis, it is accepted that not all directors have the same skills and experience, and not all directors have the same understanding of how companies function. Naturally, this raises the question as to what can be expected of different directors (who have different backgrounds and experience) when it comes to determining whether they have acted appropriately in any given circumstance.

In the case Fisheries Development Corporation of SA Ltd v AWJ Investments (Pty) Ltd 1980 (4) SA 156 (W), the court clarified that the test is applied differently to different directors, stating that the “extent of a director’s duty of care and skill” depends on the “nature of the company’s business and the particular role played by the director”. There is a different expectation between the so-called full-time or executive director, who participates in the day to day management of the company’s affairs, and the “non-executive” director who is not an employee.

In other words, a different expectation will be applied to each of these categories of directors. A non-executive director is not expected to give continuous attention to the affairs of the company and has an intermittent (even part time) relationship with the company. Therefore they would not be expected to have the same level of knowledge as the executive director, who is involved in the day to day operations of the company, and so more is expected of them.

Courts have acknowledged that directors do not have to have special business acumen in order to be a director, highlighting the subjective nature of the test. In carrying out a director’s duties, directors may assume that employees, professional advisors, and company officials acting under the board’s instruction will perform their duties honestly unless they have proper reasons for querying this.

If a director takes a decision which, in hindsight, turns out to have been a poor decision, directors can rely on the “business judgement rule” which provides directors with protection from liability to the company incurred as a result of a poor decision, provided that the director:

  • took reasonably diligent steps to become informed about the matter;
  • had no personal financial interest in the subject matter of the decision (and had no basis to know that any person/entity related to the company had a personal financial interest in the company); and
  • had a rational basis for believing that the decision was in the best interests of the company at the time.

If there is a dispute over whether the decision taken by the director was in the best interests of the company, the courts will apply the “business judgement rule” by considering what the director believed at the time in light of their general knowledge, skills and experience.

With this in mind, directors will be protected by the law if, relying on their skills and experience, they approach company related decisions by taking intentional steps to become properly informed about a matter, remain aware of and avoid any conflicts of interest, and ensure that there is a rational basis for believing that their decisions are in the best interest of the company at that time.

Part 2: Directors – the duty to act in good faith and in the best interests of the company

Part 2: Directors – the duty to act in good faith and in the best interests of the company

Directors of companies have a unique “fiduciary” role. A fiduciary, acting on behalf of stakeholders and in relation to a company, is in a position of power, trust and confidence with respect to the company and is required to act solely in the interests of the company, whose rights it must protect.

As mentioned in the first article of our series, the fiduciary is a concept developed in law as having the following duties (set out in the Companies Act):

  • the duty to act in good faith;
  • the duty to avoid conflicts of interests;
  • the duty to act for a proper purpose; and
  • the duty to act in the best interests of the company.

It is helpful to understand each of these concepts by looking at how they are tested when a director’s actions are measured by a court.

The first element of good faith is quite subjective. This means that the courts will go through a process of enquiring whether the director genuinely believed that his/her conduct was in the best interest of the company. When making this decision, courts will take into account:

  • the relevant facts available to the director at the time;
  • his/her level of skill;
  • the expected level of diligence and care in such a situation; and
  • whether their actions were reasonable.

A proper purpose is not defined in the Companies Act, however the courts’ approach is to test whether the directors exercised their powers for an objective purpose. The court will first look for factual evidence (i.e. objective evidence) for the purpose of the director’s appointment. This will largely involve understanding the purpose of the company by looking at its Memorandum of Incorporation, shareholders agreement and historical decisions by shareholders and the board (through written resolutions). Once the courts understand the purpose of the company, and how the director’s appointment was intended to further that purpose, they can then test the director’s actions against this.  If the director’s actions do not have any rational link to furthering the company’s purpose, their actions may be considered to have been for an improper purpose.

A director’s fiduciary duties extend to the duty not to place themselves in a position where their personal interests conflict, or may conflict, with their duty to act in good faith. An obvious and important element of this duty is the obligation not to compete with the company and to avoid a conflict between a director’s interests and the interests of the company.  Effectively, this means that every director has an automatic non-competition obligation with the companies that they serve.

Acting in the best interests of the company means to act for the benefit of the company as a whole. There has been much debate as to what this means. However, this does not mean just acting in the best interest of the shareholders. Rather, this can also mean acting in the interests of “stakeholders” including employees and creditors.

There are various approaches to determine what directors should take into account when making decisions on behalf of the company, and whether the factors taken into account should have regard only for the benefit of shareholders or for the benefit of all stakeholders. The King Code, which is only mandatory in respect of listed companies, has attempted to clarify this by promoting the principles of corporate social responsibility, which require companies to act in a socially responsible manner by making decisions which will benefit both the company and other stakeholders.

If there is a dispute around whether a decision taken by a director was in the best interests of the company, the courts will apply the “business judgement rule”. They will consider what the director believed at the time in light of their general knowledge, skill and experience. The director will have satisfied the duty to act in the best interests of the company if s/he:

  • took reasonably diligent steps to become informed about the matter;
  • had no personal financial interest in the subject matter of the decision (and had no basis to know that any person/entity related to the company had a personal financial interest in the company);
  • had a rational basis for believing that the decision was in the best interests of the company.

It has been acknowledged by the courts that companies should not be over-regulated, and that directors should have the legal authority to run companies as they deem fit, provided that they act within the legislative framework. In other words, the Companies Act tries to ensure that it is the board of directors, duly appointed, who run the business rather than regulators and judges, who are never best placed to balance the interests of shareholders, employees, creditors and the larger society within the context of running a business. Accordingly, the business judgement rule could be used to absolve directors from liability, if:

  • they acted in good faith; and
  • adopted a course of action which they honestly and reasonably believed would benefit the company.

However, any director who fails to act in the best interests of the company with intellectual integrity, honesty and independence of mind and without any conflict of interest could not rely on the business judgement rule.

In the next article, we will dive into the qualification that applies to directors in the course of carrying out their duties. Specifically, that they should, and can only be expected to carry out their duties, with the degree of care, skill and diligence that may reasonably be expected of a person carrying out the same functions in relation to the company as those carried out by that director; and having the general knowledge, skill and experience of that director.

Part 1: I’ve just incorporated a company. Suddenly I’m a director and I’ve got duties. So, what next?

Part 1: I’ve just incorporated a company. Suddenly I’m a director and I’ve got duties. So, what next?

“I’ve just started a company. I’m the director and must comply with a number of directors’ duties. I’m not sure what this means, where to find them, or what I’m supposed to do to actively uphold them…”

This is how a lot of people feel when incorporating a company for the first time. There’s often a lack of conceptual clarity around the significance of the commercial vehicle that’s been created by simply filling out the suite of documents provided by the Companies and Intellectual Properties Commission (“CIPC”).

In this series on a director’s duties, we’re going to look at what a company is, and the roles of the people involved in maintaining its existence. Specifically, we’ll discuss what it means to be a director of a company by describing a director’s duties as they apply to ordinary business.

To start with, what is a company? A company is a legal entity formed by one or more individuals to engage in business. There are various types of companies (private, profit, non-profit, public, foreign), and the duties which the directors owe in each case are much the same across the board. For the purposes of these articles, we’ll be referring to private companies only.

Conceptually, a company is an artificial person, and is a separate entity from the individuals who own, manage, and support its operations. Companies have many of the same legal rights and responsibilities as a person, such as the ability to enter into contracts, own assets, hire employees, pay tax and incur liability. The main benefit of incorporating a company is limited liability. This means that the shareholders can separate themselves from the company. This is a huge factor, as it limits the risk involved because the liability of a company cannot pass to the shareholders or directors (except in certain exceptional cases which we’ll dive into later on).  However, given the separate and unique nature of a company, a human is required to direct its actions, make strategic decisions and ultimately shape its identity in accordance with the purpose for which it was created. This task is undertaken by the appointed directors, who are empowered by the Companies Act 71 of 2008 (the “Companies Act”) and Memorandum of Incorporation (“MOI”) of the company.

Directors are identified and appointed at the incorporation of a company, and can also be appointed afterwards by shareholders or any other persons designated with that right.  In the vast majority of cases, only shareholders appoint directors. However, the company’s MOI can give this right to other parties, such as investors or creditors who insist on the right to appoint a director on the board.  Once a person accepts their appointment as a director, they become a “fiduciary” in relation to the company and are obliged to display the utmost good faith towards the company. To explain this very simply, the fiduciary duty means that the director must act in the best interests of the company when dealing on the company’s behalf. This means placing the company’s interests ahead of the director’s own interest in many instances.

Nowadays, there are three main sources of information which describe and inform the duties, expectations and standard of conduct for a director: the common law (historical practice of our courts), the Companies Act and the King Code on Corporate Governance.  The most recent version of the Companies Act (2008) helpfully “codified” these duties and should be the first port of call for information in this regard. These duties are summarised in section 76(3) of the Companies Act which requires that directors, acting in such capacity, exercise the powers and perform the functions of a  director “in good faith and for a proper purpose, in the best interests of the company, and with the degree of care, skill and diligence that would reasonably be expected of someone carrying out the same function with similar experience and skill.”  The King Code of Corporate Governance is a valuable tool for describing how those duties are to be applied in practice. Compliance with the “King Code” is not mandatory except for companies listed on the JSE. It is also exhaustive and not really applicable to small and medium sized enterprises, but it does add color and context to the duties set out in the Companies Act.

In the remaining articles of this series we will explore and explain the duties listed above, to bring clarity and simplicity to your role as a director.

Closing Shop: The in-case ins-and-outs of getting out

Closing Shop: The in-case ins-and-outs of getting out

The harsh reality is that the majority of start-ups do not succeed. The economic effects brought about by the COVID-19 pandemic may be felt for a long time yet – on a global scale. Considering this, it cannot be said that the business climate is currently particularly advantageous to a fledgling business which, statistically speaking, was far from a guaranteed success story even before the national lockdown.

Just like you, we hope that your business will defy the odds and succeed. We have written plenty of articles spanning a wide range of topics that may prove helpful and remain available to offer legal assistance in this regard. But what do you do if your business is failing and it can no longer sustain its operations?

Consider this: your business is in financial distress and you have considered all the possible options including business rescue. You have reached the point where the only option is to liquidate the company. What now? What are the legal processes you should follow to efficiently wrap up your business affairs to avoid further unnecessary expenses?

This article will deal with such questions so that you can be aware of the appropriate course of action as well as the possible legal pitfalls when you choose to close up shop due to insolvency.

The test for insolvency:

A company is said to be insolvent in two circumstances:

(1) when its liabilities exceed its assets (what is known as factual insolvency); or

(2) when it cannot pay its debts as and when they fall due (what is known as commercial insolvency).

When your company faces either of these two scenarios, then it means that the company is no longer able to trade and may need to consider insolvency proceedings should all the other available possibilities (for example business rescue) be exhausted.

The liquidation process:

In South Africa, insolvent companies are liquidated in terms of Chapter 14 of the Companies Act 61 of 1973 (“the Old Act“), whereas solvent companies are liquidated in terms of the new Companies Act, 71 of 2008 (“the New Act“). For the purposes of this article, we will only be dealing with the winding up of solvent companies – which is dealt with under Part G of Chapter 1 of the New Act.

Another distinction to draw here, and something that will have to be ascertained beforehand due to them being subject to different legislative processes, is whether the (solvent) entity will be undergoing winding-up proceedings on a voluntary or involuntary basis. These will be discussed in turn below. Finally, the deregistration of your company with the Companies and Intellectual Property Commission (“the CIPC“) will also be briefly considered.

Voluntary:

Voluntary winding-up of a solvent company is regulated by section 80 of the New Act, prescribing an elective process through the adoption of a special resolution by the shareholders of the company. However, simply passing this resolution will not be enough to wind up the company.

It is only when this resolution is filed with the CIPC (which is to be accompanied by a CoR 40.1 and a filing fee of R250) that the voluntary winding-up process can be said to have begun. The CIPC will then deliver a copy of the resolution to the Master of the High Court. However, before the resolution can even be filed, the company must arrange for satisfactory security of the company’s debts (or obtain consent to dispense with such security) to be lodged with the Master.

Involuntary:

It would perhaps be more accurate to refer to involuntary winding-up as court-ordered winding up. A court may order a solvent company to be wound up if the company resolved by special resolution that it would be wound up by the court or the company itself applied to the court to have its voluntary winding up continued by the court.

One or more of the company’s creditors may also apply to the court for an order to wind up the company on the grounds that business rescue proceedings have been unsuccessful or that it is just and equitable for the company to be wound up.

Exactly when the winding up of a company by means of a court order starts will depend on who requests it. If it is the company itself, then it will be when the application to court is made (as mentioned above, this can be done either directly or by moving from the voluntary process to the court-ordered process). If an application for winding up by means of a court order is brought by a creditor, a director, a shareholder or the CIPC itself, then the process will only begin once the order is granted.

The deregistration process:

Although the above outlines how the winding-up process starts through either the voluntary or involuntary process, it is also important to know when this all comes to an end – which will be with the deregistration of the entity with the CIPC.

Formally, after the Master of the High Court has filed a winding up certificate with the CIPC, the CIPC has a duty in terms of section 82(2) of the New Act to remove the company’s name from the companies register. What this means is that once its confirmed that the affairs of the company have been completely wound up, the CIPC is obligated to record the dissolution of the company in the prescribed manner and deregister the company forthwith.

It is possible for the CIPC to deregister the company in other circumstances (for example failure to pay annual returns for 2 consecutive years).

Now, you may be thinking: why not just skip to the whole liquidation process, abstain from filing annual returns and the company will just be de-registered eventually? The deregistration of the company with the CIPC does not affect the liability of any former director or shareholder of the company and continues to be in force and effect as if the company had not been removed from the register. It is only through a liquidation process that the affairs of the company can be legally and factually wound up.

In short, we’re hoping you’re reading this as a time-filling light read – but if you were brought here out of necessity, we’ll be happy to assist you in considering all your available options.

Direct and indirect share ownership on asset protection

Direct and indirect share ownership on asset protection

Generally, buying shares means buying fractional ownership of a company. The reality is that the shares you hold do not entitle you to financial returns unless certain liquidity events occur or as otherwise agreed upon. The most common example of a liquidity event is when directors of a company declare dividends to the shareholders. Assuming such dividends are financial in nature, you will be paid a monetary amount equivalent to your shareholding percentage. If you hold shares directly in your personal capacity, your portion of the dividends will be paid into your estate. Similarly, if a company is liquidated, after the debts and other liabilities of the company are paid in full, your shares would entitle you to a portion of the residual assets of the company. These proceeds would also be paid into your estate.

Alternatively, upon a dividend liquidity event when you hold your shares indirectly through another entity such as a trust or holding company, your portion of the returns will be paid into the estate of a trust or holding company. Such proceeds will not form part of your personal estate until, as a beneficiary of the trust in question, you succeed in your claim against the trust. At this point you will receive such payment into your personal estate. The same is true if you have shares through a holding company. The directors of that company must first declare dividends, if no other agreement exists, before you will be entitled to access the company funds.

The structure through which you hold your shares is crucial in protecting your assets. In this article, we focus on some basic legal outcomes that a direct and indirect shareholding structure have on protecting your assets from unforeseen risks such as debt, death, divorce and sequestration.

Direct share ownership: personal capacity

Holding your shares in a company directly does not mean that your estate will be responsible for the debts and other liabilities of the company (unless otherwise agreed in the shareholders’ agreement or surety agreements). This is stated in section 19 (2) of the Companies Act 71 of 2008 (as amended) (“the Act“), in terms of which a direct shareholder has limited liability. This means that a direct shareholder will only be liable for company debts to the extent of his or her investment in the company or through another agreement.

However, returns paid into the estate of a direct shareholder will always be exposed to personal liability claims as they remain in the direct shareholder’s personal estate. The shares held may be protected against attachment, unless pledged or subject to attachment through other processes such as the procedural workings of insolvency law (at which point most company’s founding documents will trigger forced sale events). However, the returns generated from the shares are susceptible to risk as they form part of the personal estate. For purposes of wealth creation, it is important to diversify your assets and not put all of your eggs in one basket. This can be crucial for individuals who are involved in business ventures which may leave them financially exposed.

Indirect share ownership: trust

As a point of departure, you will need to consider if the company’s founding documents allows for a trust to hold shares in the company. If this is provided for, a trust will enable an indirect shareholder, in the capacity of a trustee, to manage shares, as well as the proceeds thereof, to the benefit of the trust beneficiaries. Any returns received as a result of shareholding will vest in the estate of the trust and not in the personal estate of the trust founder. This position is confirmed in section 12 of the Trust Property Control Act 57 of 1988. The result of the separation of estates is that any claims brought against the personal estate of an indirect shareholder cannot be recovered from the estate of the trust, as this a distinct and separate estate.

As with various special purpose vehicles, there are exceptions. The above stated section 12 excludes beneficiary claims. If you have a claim against a trust (i.e. you are also a beneficiary of the trust through which you hold shares) creditors holding claims against your personal estate may succeed in attaching your claim to the trust using appropriate legal procedures. Furthermore, any financial returns suddenly transferred into a trust when a trustee is declared insolvent can set aside the trust transaction, subject to insolvency laws. Generally, creditors might find it difficult to set aside trust transfers if an indirect shareholder is solvent and you can present an honest record of using the trust. Therefore, sudden or suspicious transfers of shareholding returns into a trust to extricate an indirect shareholder from liability will fail at protecting your returns, as this may constitute a sham or alter ego trust.

Indirect share ownership: holding company

The Act allows for another special purpose vehicle, a holding company, to hold shares in another company. Usually, a holding company will not conduct any business of its own (although it can) as the purpose is normally restricted to creating wealth. Again, it is necessary to have sight of the founding documents of the company to ensure that a holding company is authorised to be a shareholder. As in the case of an individual shareholder, a holding company will not be liable for the debts and other liabilities of the company beyond the share capital contribution as it is regarded as a separate juristic person (except in instances of fraud or as otherwise agreed).

Upon the happenings of any liquidity event, if a holding company is a shareholder the proceeds will not accrue to a personal estate. Instead, payment will be made into the estate of the holding company. The indirect shareholder will not be authorised to access funds from the estate of the company for personal use unless dividends are declared, or through another arrangement in law.

Likewise, any claims against the personal estate of the indirect shareholder cannot be extended to the holding company, as such estates are separate. If the indirect shareholder’s shares in the holding company are attached through proper legal proceedings, the estate of the company will still be protected, and the founding documents of the holding company might enforce a forced sale event upon successful attachments. An exception here is if the company is being used inappropriately to divert funds solely for the frustration of claims from creditors. This conclusion is reached on a case-by-case basis.

Conclusion

There are many complexities to protecting shares or the value generated from such shares against external claims. Careful consideration must be given to the terms in the founding documents of the company, relevant legislations, transactional documents, the shareholding structure and personal circumstances of each client. With an experienced commercial attorney on your side, you can structure your shareholding with ease to protect your assets and ensure other desired outcomes.

Wonder no more – POPI commencement announced for 1 July 2020

Wonder no more – POPI commencement announced for 1 July 2020

The long wait is over. The Protection of Personal Information Act (“POPI”), promulgated in 2013 and of which certain sections became effective in 2014 has now, just north of 6 years later, been given the go-ahead for the commencement of the majority of sections. As POPI was published in its entirety all those years ago, businesses had ample time to start testing out their information protection frameworks and getting them streamlined for the day on which POPI would finally commence.

The commencement date has been speculated on for quite some time, however official communication from the President’s office, and its publication in the Government Gazette, on the 22nd of June 2020 has now dispensed with the need for further speculations:

Sections 2 – 38; sections 55 – 109, section 111; and section 114(1)-(3) will commence on the 1st of July 2020.

If you have waited with your compliance project; or if your business has been complying with POPI requirements for quite some time now, but would need to tweak a few processes, you need to act fast. These sections commence from the 1st of July 2020 but note that section 114(1) effectively provides for a one-year compliance streamlining period.

Accordingly, although the commencement date is less than a month away, a 12 month “implementation period” to get ready for compliance will apply.

Finally, section 110 and section 114(4)’s commencement date has been announced as 30 June 2021. This allows time for processes to be put in place for the Information Regulator to hit the ground running once compliance with POPI is expected from entities.

If you need any assistance in getting your business’ POPI obligations in line with the legislative requirements, feel free to let us know – our team is ready to assist you.

eCommerce under lockdown explained

eCommerce under lockdown explained

From the commencement of the national lockdown, no meaningful distinction was made between online shopping and physical retailers in terms of purchasing options. If you couldn’t buy a new pair of headphones from your local mall to thoroughly enjoy the morning exercise window to the fullest, you wouldn’t have had the option to get access to your jogging tunes via online sales either.

Retailers were prohibited from selling goods under Alert Level 4 unless such goods qualified as permitted goods.  A list of such permitted goods is laid out in section E of Table 1 of the Regulations published on 29 April 2020, prescribing what may and may not be sold under Alert Level 4. However, this list is still fairly limited with various goods still not being available for sale to the general public.

Since the middle of May however, this position has changed. Drastically.

Directions allowing for e-Commerce sales during Alert Level 4 of the COVID-19 National State of Disaster were published on 14 May 2020. Loosely speaking these Directions allow for the sale of all goods through e-Commerce channels (with the exception of the sale of liquor and cigarettes).

So, what does this mean for your business?

Except for liquor and cigarettes, even if you were not allowed to trade under Level 4, you may now commence trade of all products if you can operate under the e-Commerce Directions.

Changing your business model to an e-Commerce business may not be something you anticipated as a short term goal. But with these e-Commerce Directions offering you lemons, it might just be the right time to recalibrate those short term goals and make lemonade (and then sell that lemonade online).

In essence it comes down to the following:
  • You need an e-Commerce process to sell your goods; and
  • You need to get your good delivered.

It is important to note that delivery does not necessarily mean appointing a courier – delivery may also mean that your employees deliver goods to local customers.

We are fully geared to assist clients with the set up of a legitimate e-Commerce process complying with the Directions. This includes advice on the process to be followed to qualify as an “e-Commerce process” under the new Directions and preparing the necessary terms and conditions and contracts with customers and third party service providers. Furthermore, we also assist with advice on the internal requirements to operate safely and in compliance with the Directions as it is of paramount importance that your internal policies ensure compliance at all times.

Contact us if you need to get ready for e-Commerce under lockdown!

Disaster Management Tax Relief is coming!

Disaster Management Tax Relief is coming!

Public comments for the Draft Disaster Management Tax Relief Bill and the Draft Disaster Management Tax Relief Administration Bill are now open. These two tax relief bills, aimed at combating the negative economic effects the spread of COVID-19 holds, were published on 1 April 2020 for public comment. These bills include provision for –

  • Amendments to the Employment Tax Incentive Act by expanding the employment tax incentive age eligibility criteria, as well as the amounts that can be claimed and changing the payment of employer tax incentive reimbursements from occurring twice a year to occurring on a monthly basis;
  • COVID-19 disaster relief trusts to be set up: Donations to these trusts are to fall within the ambit of section 18A of the Income tax Act and the provisions relating to how amounts received from these trusts should be treated; and
  • Deferrals for employees’ tax and provisional tax for certain businesses.

Aptly named, these tax relief bills aim at employing measures that include assistance to over 4 million workers and 75 000 small and medium term enterprises.

You can access these bills and the explanatory memorandum for a more thorough read at the following links:

Public comments are open until the 15th of April 2020 and can be submitted to 2020AnnexCProp@treasury.gov.za.

If you require any assistance in making such a submission, please feel free to get in contact with us. As you may be aware, we have already started providing our legal services from home  prior to the national lockdown in an effort to help flatten the curve. Our office number is being forwarded to our executive assistant, who will happily place you in contact with the relevant practitioner – or you can email your queries directly to us at info@dommisseattorneys.co.za.

Dommisse Attorneys helping to flatten the curve

Dommisse Attorneys helping to flatten the curve

Levels of concern around COVID-19 have certainly ramped up in the last week, and as many of you are aware, on 15 March 2020 President Cyril Ramaphosa declared the spread of the virus a “national disaster” in terms of the Disaster Management Act 57 of 2002.

This Act governs the regulatory effects of a national disaster and allows for extra measures to be taken in addition to existing legislation and contingency arrangements where special circumstances warrant it.  Interestingly, in terms of the Act any national state of disaster automatically lapses three months after it has been declared but can be terminated earlier or extended by a notice in the Government Gazette.

What measures are Dommisse Attorneys taking during this time?

  • Our team will be working from home for the foreseeable future
  • We will limit face to face meetings and meet through online channels only, unless absolutely impossible for a client
  • You will be able to contact us on our numbers and email as usual
  • If you call the office number it will be forwarded to our friendly assistant Gerry who will get the relevant attorney to return your call
  • We will continue “business as usual” as far as possible!

Why do we do this?

  • Although we have not been affected directly – meaning that none of our team has shown any symptoms or tested positive for the Coronavirus – we want to be pro-active in support of the national approach to do whatever we can to limit the virus from spreading as much as possible.
  • We also do this, because we can! As a law firm that embraces technology and the advantages it offers, we are able to do this without too much of a direct effect – except of course that we will miss the face time with fellow team members and clients!

All the best to all our clients during this challenging time. And remember that we are continuing business as usual – remotely!

Save time and get quicker financial support with a term sheet

Save time and get quicker financial support with a term sheet

Prince Mathibela

A well-known method for financing a company is to issue equity shares for a capital contribution. There is often much deliberation around the essential terms which regulate this transaction, before it’s recorded in binding transactional documents.

It is standard practice for a potential investor to withhold investment proceeds until transactional documents have been finalized. This results in the investee company having to bootstrap for another month or two to carry out operational activities while drafting and implementing documents.

The likelihood of a longer waiting period can be increased if parties fail to use a term sheet that sets out the salient terms of the investment. This instrument will assist a commercial attorney to glean insight and draft the investment documents quicker and prevent endless back and forth between a potential investor and an investee company.

The value is that the transaction parties state their intent on the most essential elements of the transaction upfront. This removes a lot of the friction out of the process of reaching consensus in the transaction documents.

Term sheet

A term sheet, also called a letter of intent or a memorandum of understanding in some circles, is a document outlining the material terms and conditions of a proposed transaction.

Unlike binding contracts such as a subscription agreement, term sheets are generally not binding. However, parties may elect to adopt a wholly or partially binding term sheet.

In most cases, only the confidentiality undertakings and provisions that bind the parties to exclusive negotiations will be binding. The remaining terms can only be enforced against a defaulting party if expressly accepted as having immediate force and effect.

In a term sheet, investors focus largely on terms that bestow economic advantages and controlling power in an investee company. As such, a representative of any investee company must have a firm grasp of the materiality of each provision on a term sheet before investment discussions. In this way, the representative’s focus is not misdirected to immaterial provisions of no value to existing shareholders in the long term.

Ideally, each provision must be negotiated separately, and the outcome thereon accurately recorded. For example, if a potential investor wishes to secure voting rights on board level, part of the completed term sheet must state that the potential investor will have the right to appoint a director to the investee company’s board of directors and that on some matters that require the affirmative approval of the investor representative, a board resolution passed without the appointee will be void.

Always remember that most signed term sheets merely demonstrate the intent to invest. Investors usually refrain from disbursing funds until the date when a subscription agreement or other transactional documents come into full force and effect.

The benefit of using a term sheet is to facilitate investment discussions, ascertain outcomes and speed up the process involved in drafting final transactional documents. The investment funds are then disbursed more quickly resulting in the investee company reverting their focus to the main business of the company and generating their next revenue.

We have also seen that in practice a potential investor is more likely to conclude an investment transaction once a term sheet has been signed than after a verbal discussion and a handshake.

Subscription agreement

A subscription agreement is a document in which at least, a subscriber, being a potential investor, is bound to advance a subscription consideration in return for a specific number of equity shares in an investee company.

Ideally, the terms and conditions surrounding the amount of capital to be invested together with the disbursement terms and the purview of privileges and limitations of the equity shares has already been settled through a term sheet and then detailed to a subscription agreement.

The real value of using a term sheet is the ease with which a subscription agreement is finalised as most of the hard work would have been completed and discussed during the negotiation stage and the outcome already accurately recorded therein.

Lastly, seek assistance from your trusted legal practitioner to create a legally sound subscription agreement. The binding effect of this agreement and its enforceability is dependent on the extent to which it is consistent with the Companies Act, 71 of 2008 and the following constitutional documents of the investee company:

  • memorandum of incorporation;
  • shareholders’ agreement; and
  • the company rules (if any).

Good luck fund raising!