24 March 2021 by Corporate and Commercial Alert

Time to shelve “shelf companies”?

Historically, shelf companies served as a time saving measure whenever a company was required for the establishment of a business, as a vehicle to implement a transaction or to take advantage of a tender opportunity. It allowed a person to simply “purchase” a shelf company to fulfil the required purpose in a relatively quick and efficient manner in comparison to incorporating a company from scratch, which could take several weeks.

Incorporating shelf companies became a business in itself, whereby a person (who we shall refer to as the “seller”) would incorporate companies with no assets or liabilities en masse with the sole purpose of transferring or issuing shares in the company to anyone who requires the immediate use of a company. These newly incorporated companies would then sit on the metaphorical shelf until they are purchased by someone who requires a company (who we shall refer to as the “purchaser”) and reformatted according to the purchaser’s requirements.

Has time and technology, however, finally caught up with shelf companies? Before addressing this question, let’s consider some of the disadvantages often encountered when making use of a shelf company.

While the shelf company would have never traded previously and remained dormant, it would still have been incorporated with a certain set of details including persons appointed as directors and a registered address – most, if not all, would not be suitable to the purchaser. A process would then need to be undertaken to reformat the shelf company to meet the purchaser’s requirements, and while this process is in general relatively straightforward, this is not necessarily the case. For example, the co-operation and assistance of the existing appointed directors is required, which could be problematic if any of the directors are no longer in the employ of the seller of the shelf company. Furthermore, this process is not instantaneous and the Companies and Intellectual Property Commission (CIPC), requires a certain review period before finalising such reformatting amendments.

Often, as part of the incorporation of a shelf company, shares are issued and then held by the seller in anticipation of transferring them to a purchaser who requires a company. In the instance of a private company, the seemingly innocuous act of transferring the shares would often lead to the unintended consequence of transforming the private company into a “regulated company”. A private company becomes a “regulated company” when shares in excess of 10% of the issued share capital of the company is transferred to an unrelated person with the consequence that for the next two years the takeover regulations of the Companies Act would need to be complied with in relation to fundamental transactions involving the company, thereby introducing potentially unintended complexity and compliance hurdles in relation to the implementation of any such transactions.

International investors are also generally unfamiliar with the concept of a shelf company and would often view the use of one with scepticism, given that it would be purchasing a company that would have been in existence for some time on the premise that it has never before traded and has no assets or liabilities. Such investors are usually more comfortable with the incorporation of a company from scratch but do not have the luxury of time to wait for such process to be completed.

Acquiring a shelf company would also require the purchaser to rely on the seller for having incorporated the company properly and in compliance with all legal requirements. For example, a shelf company with shares already in issue would had to have received adequate consideration for the issue of those shares for them to have been validly issued. As a shelf company would be incorporated with no assets, the payment of, at the very least, a nominal consideration for the issue of such shares would sometimes be overlooked, only to be uncovered as an invalid issue of shares during a due diligence of the company several years later.

With the disadvantages of purchasing a shelf company in mind, let’s now consider the process of incorporating a new company from scratch.

Historically a new company would be incorporated by completing and physically submitting the relevant documents to the CIPC, after which an employee of the CIPC would manually review the documents to ensure that all relevant requirements were met. This process could take several weeks and was largely dependent on the capacity of the CIPC as well as the efficiency of the CIPC employees reviewing the documents.

Alongside the new Companies Act coming into effect in 2011, the CIPC launched its own website with the aim of automating some of the services it offered as well as allowing for electronic delivery and filing of certain documents. This meant that time could be saved by removing the need to physically deliver any incorporation documents to the CIPC, however, an employee of the CIPC would still need to manually review the incorporation documents, a process which could still take several weeks.

Over time the CIPC gradually implemented and improved the automation and efficiency of its online services allowing companies to be incorporated in a much more efficient manner, as quick as approximately three business days after the online submission of the relevant documents.

The CIPC has with effect from 1 March 2021, taken a further leap in improving the automation and efficiency of its online services by establishing a new automated company incorporation portal which utilises the resources and verification processes of the Department of Home Affairs. This effectively means that a new company utilising a standard short form memorandum of incorporation with South African directors can be incorporated almost instantaneously without the need to submit any supporting documents for physical review.

This would allow for the immediate incorporation of the company on the basis that further changes such as a change to directors or the adoption of a more comprehensive and tailored memorandum of incorporation could be actioned at a later stage.

When considering whether it is best to purchase a shelf company as opposed to incorporating a new company it would appear that the CIPC’s new company incorporation portal turns the tide in favour of incorporating a new company from scratch, especially when one considers the fact that it can now be done in as little as a day without any additional cost.

It seems that technology and the need to increase the ease of doing business has caught up with shelf companies, suggesting perhaps that the time has come to shelve shelf companies.

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