7 April 2020 by , and Business Rescue, Restructuring & Insolvency Newsletter

Can a business rescue practitioner be paid a “success fee” outside the confines of section 143 of the Companies Act?

This was one of the questions which the Supreme Court of Appeal of South Africa (SCA) had to consider in the recent case of Caratco (Pty) Ltd v Independent Advisory (Pty) Ltd (Case No 982/18) [2020] ZASCA 17.

Section 143(1) and (2) of the Companies Act 71 of 2008 (Companies Act) deals with the remuneration of business rescue practitioners and states the following:

“(1) The practitioner is entitled to charge an amount to the company for the remuneration and expenses of the practitioner in accordance with the tariff prescribed in terms of subsection (6).

(2) The practitioner may propose an agreement with the company providing for further remuneration, additional to that contemplated in subsection (1), to be calculated on the basis of a contingency related to:

(a) the adoption of a business rescue plan at all, or within a particular time, or the inclusion of any particular matter within such a plan; or

(b) the attainment of any particular result or combination of results relating to the business rescue proceedings.”

Before we answer the question posed in the title of this article, we will look at the background facts in the Caratco case.

Background

Independent Advisory Services (Pty) Ltd (IAS) is a company specialising in business rescue. On 9 October 2015, two of its directors were appointed as joint business rescue practitioners (the Practitioners) of Galaxy Jewelers (Pty) Ltd (Galaxy). Galaxy formed part of a group of companies (Galaxy Group) that were controlled by Mr Tom Watson (Watson).

Following the appointment of the Practitioners, they discussed the payment of a success fee to IAS with the managing director of Galaxy in the event that the Practitioners are successful with the business rescue of Galaxy.

The managing director of Galaxy thereafter approached Watson, who was the controlling mind of the Galaxy Group and also the managing director of Caratco (Pty) Ltd (Caratco), one of the other companies in the Galaxy Group, to discuss the request from the Practitioners. Watson agreed that a success fee of R2 million would be paid to IAS if the Practitioners are successful with the business rescue proceedings and informed the Practitioners of his decision.

Shortly thereafter, Caratco’s attorney informed the Practitioners that he would advise them in due course which entity in the Galaxy Group would be chosen to pay in terms of the Agreement so as to maximize the income tax advantage to the Galaxy Group.

On 30 March 2016, Caratco’s attorney informed IAS that it had to submit its invoice to Caratco. Caratco’s attorney further advised the Practitioners that until the Practitioners have filed a notice of substantial implementation with the Companies and Intellectual Property Commission, to bring the business rescue proceedings of Galaxy to an end, Caratco is not obligated to pay any amount to IAS.

IAS subsequently filed a notice of substantial implementation and duly invoiced Caratco for payment. However, Caratco ignored the invoice and the subsequent demand for payment by IAS.

On 4 August 2016, IAS instituted motion proceedings against Caratco for payment of the debt. In Caratco’s answering affidavit it admitted the existence of the Agreement but denied liability for payment on several grounds. On 3 March 2017, the Motion Court referred the matter to trial.

Despite Caratco’s concession in its answering affidavit that the Agreement existed, it denied the existence of the Agreement in its plea. It further pleaded that:

(i)    if there was such an Agreement, its attorneys were not authorised to have concluded it on its behalf;

(ii)    alternatively, the Agreement was concluded by a unilateral mistake due to a misrepresentation by the Practitioners that a special fee was due in terms of section 143 of the Companies Act, which was not the case, and as such, the Agreement was void; and

(iii)   the Agreement was illegal and contrary to public policy.

One of the Practitioners was the only witness to testify at the trial and he provided a largely unchallenged version of events similar to that outlined above. No version was put to him regarding the factual basis for any of Caratco’s pleaded defences other than that no agreement was concluded. Caratco closed its case without calling any witnesses to rebut the Practitioner’s version.

The court a quo found that Caratco agreed to pay the success fee in terms of the Agreement and that it had failed to establish any of its defences, including that of illegality and public policy.

Caratco thereafter applied to the SCA for leave to appeal the judgment of the court a quo. In the SCA, the focus was on the defences of (i) statutory illegality and (ii) public policy. The SCA stated that the issue as to whether a business rescue practitioner could earn a success fee beyond the limitations of section 143 of the Companies Act constituted an important question of public policy and was therefore a compelling reason for the appeal to be entertained.

Proceedings before the SCA

Caratco’s arguments

Caratco pleaded that a business rescue practitioner is not entitled to earn a special fee from a third party in consequence of acting as the business rescue practitioner, such special fee not being one in terms of section 143 of the Companies Act. It further pleaded that properly construed, section 143 of the Companies Act is the only means by which a practitioner can be remunerated for his/her services in business rescue proceedings, and as such, any fees agreed upon, outside of the provisions stipulated in terms of section 143 of the Companies Act, are implicitly prohibited. In light of the aforementioned, Caratco stated that the court should declare the Agreement void in terms of section 218 of the Act.

As alluded to above, Caratco further pleaded that if it was found that the Agreement was not illegal, the Agreement was contrary to public policy. Caratco argued that the Agreement was contrary to public policy on the following grounds:

(a)   Firstly, it said that the Practitioners ‘subverted the democratic vote of the majority of creditors’ by claiming the debt was due in terms of section 143 of the Companies Act, when it was not. Caratco submitted that the effect hereof was that the other creditors of Galaxy could have secured a greater dividend for themselves than the amount they received. Considering the aforementioned, Caratco argued that the conclusion of the Agreement between the Practitioners and Caratco (which was also a creditor of Galaxy), without disclosure to the other creditors of Galaxy, was inimical to the legislative purposes of the Companies Act.

(b)   Secondly, Caratco argued that because business rescue practitioners have a duty of impartiality and independence towards the company under business rescue, an agreement for payment of a success fee with a single creditor, without seeking the approval of the general body of creditors, offended this duty. In support of its aforementioned argument, Caratco noted that a creditor with whom such an agreement is concluded, would be ‘captured’ by the business rescue practitioner and secure its own interests outside of the general body of creditors.

SCA’s judgment

(i)    Section 143 of the Companies Act

In its judgment, the SCA noted that section 143 of the Companies Act regulates the remuneration of business rescue practitioners by the company under business rescue and says nothing about any other fee arrangements between a business rescue practitioner and a third party, such as the success fee agreement relevant to this matter. In light of the aforementioned, the SCA stated that the scope of section 143 of the Companies Act does not apply to the Agreement.

The SCA also stated that section 143 of the Companies Act contains no language entitling a court to the draw the conclusion that any agreement not falling within its ambit, is void.

(ii)    Section 218 of the Companies Act

The SCA stated that Caratco did not specifically refer to the subsection of section 218 of the Companies Act on which it wished to rely in order for the Agreement to be declared void.

However, the SCA also stated that it seemed that Caratco envisioned section 218(1) for this purpose. Section 218(1) of the Companies Act provides that a court may declare an agreement void if it is ‘prohibited, void, voidable or may be declared unlawful’.

The SCA held that since there was no substance to Caratco’s illegality complaints, it was unnecessary to consider the court’s power to declare an agreement contrary to the provisions of the Companies Act and therefore void in terms of section 218(1).

(iii)   Public Policy

The SCA held that Caratco’s submissions regarding the Agreement being against public policy (as set out above) were without any merit. The SCA noted that the evidence revealed that the Practitioners had included the success fee in the draft business rescue plan, which was initially prepared, to be voted on in terms of section 143(4) of the Companies Act. However, Caratco’s attorneys requested it to be removed so that it could be dealt with in a separate agreement with another company in the Galaxy Group. The SCA held that there was therefore no factual basis for the suggestion that the Practitioners were subverting the democratic vote of the creditors by agreeing to delete the success fee at Caratco’s attorney’s request.

The SCA further held that there was no prejudice to any creditor of Galaxy, since one of the Practitioners had testified (which evidence remained unchallenged) that the success fee had no financial impact on creditors, since it was an additional amount that Caratco had undertaken to pay. The success fee that was to be paid by Caratco was not earmarked for the creditors and if they were dissatisfied with their dividend, they would have voted against it, but they did not.

Lastly, the SCA noted that Caratco did not contend that the success fee that it freely negotiated with the Practitioners was unjust, inequitable or egregiously unreasonable as envisaged in section 143(4) of the Companies Act. Hence, the SCA held that Caratco’s public policy defence was also without merit.

Conclusion

The SCA has made it clear in this judgment that it is not illegal or in contravention of the Companies Act for a business rescue practitioner to be paid a success fee by a third party outside the confines of section 143 of the Companies Act. However, business rescue practitioners should be aware that the SCA’s findings regarding whether the Agreement in this case was against public policy, was case specific. It could very well be that in the future, under different circumstances, the courts find that a success fee agreement between a business rescue practitioner and a third party creditor is against public policy (e.g. where the success fee has a direct impact on the dividends to be paid to other creditors, or where it is clear that the third party creditor is trying to unduly influence the business rescue practitioner’s decisions).

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