8 December 2021 by , and Business Rescue, Restructuring & Insolvency Newsletter

Shedding light on a sunken ship: The why what and how of insolvency enquiries

When a company is placed under liquidation, it is sometimes more than just a business venture gone wrong. More often than not a myriad of factors contributed to the company’s downfall, many of which could potentially have been avoided. Mismanagement of the company, or acts of misconduct or impropriety by those in charge of the company’s affairs may well have led to its current financial predicament and prejudice to its creditors. Consequently, the urge to conceal any potential wrongdoing could grow strong in any person closely connected to the company’s affairs. Given that a liquidator is essentially an outsider looking into the affairs of the company, it seems likely that certain transactions would be difficult to uncover or understand by merely looking at the company’s financial books.

For this reason our legislature has made provision for private insolvency enquiries to be conducted. Insolvency enquiries are still conducted in terms of the old Companies Act 61 of 1973 and regulated under section 417, read with section 418 of the Act. Section 417 sets out the powers of the Master or a court to convene an enquiry and section 418 allows for the delegation of these powers to a commissioner.

Purpose of the enquiry

An insolvency enquiry allows a liquidator to obtain the necessary information and details from relevant parties to assist them in properly winding up the affairs of the company. In many instances the documents and information required by the liquidator are highly confidential and an insolvency enquiry makes provision for this. All information obtained during the enquiry, whether in the form of documents or oral evidence, remains private and confidential, unless the court or Master orders otherwise. In the event that litigation by the company in liquidation could potentially be instituted – with the aim of recovering funds to the benefit of the company’s creditors , it is also important that the liquidator is able to gather the necessary information without such information becoming available prematurely to the persons against whom the potential litigation will be instituted. The enquiry also allows the Master to authorise the investigation into the affairs of a company without the involvement of the courts, especially in cases where an investigation needs to happen urgently.

Requirements for convening an enquiry

An enquiry may only be convened in respect of a compulsory winding-up of a company, made by application to the court. In the event that a company is placed in voluntary liquidation and an application is subsequently made to court to convert the liquidation to a compulsory liquidation, an insolvency enquiry may also be convened. The Act, in section 415, already makes provision for the interrogation of persons at the meeting of creditors, and therefore an applicant for an insolvency enquiry must satisfy the court or the Master that such an insolvency enquiry is preferable. The applicant should also convince the court that there is a reasonable suspicion that the person/s being called to the enquiry has access to the necessary information.

The court has a discretion to grant an insolvency enquiry application and in doing so, has to consider the liquidator’s needs in winding up the company, in relation to the rights of the person/s to be examined under the enquiry. While the right to privacy plays an important role in the court’s determination, it must balance this against the importance of the information required by the liquidator. In the event that the information is essential to potential future litigation, it is likely that the court will lean towards granting the application. The applicant is, however, not required to make out a prima facie case that there are grounds for future litigation, but merely needs to prove that there is a reasonable suspicion.

Process for convening an enquiry

It is usually the liquidator who would make the application to the court or the Master, but this does not preclude any other person with in interest in the company from bringing such an application. In practice it is often disgruntled creditors who bring the application with the assistance of the liquidator. Once such application is granted, it will likely not be the court or the Master who presides over the enquiry, but instead a commissioner will be appointed for this purpose. Technically the court may appoint anyone as a commissioner, but given the potential complexity involved in such an enquiry it should usually be either a retired judge or senior advocate who is appointed.

The costs involved in the appointment of a commissioner and the running of an enquiry must be paid by the person who made the application, but the court or the Master may direct that these costs are paid out of the assets of the estate.

Once an enquiry has been convened, the commissioner may, on request by the applicant, subpoena any persons whom it deems able to provide necessary information into the business dealings and affairs of the company in liquidation, to attend the enquiry and testify as to its knowledge. The request could either be for documentary evidence alone, or to appear before the commissioner to present oral evidence, or both. The attorney representing the applicant has the right to, along with the commissioner, question any of the witnesses who appear at the enquiry.

Rights of the witnesses

A witness who has been subpoenaed to provide information or documents in an insolvency enquiry has the right to legal representation. However, the witness and their legal representative may only be present during the witness’ own interrogation and do not have access to information or evidence provided by any of the other witnesses in the enquiry. While the witness may request that questions are posed prior to the enquiry in order to allow them time to obtain the necessary information, a witness does not have a right to this prior information and such a request may be refused. Witnesses may be required to sign the transcript of their evidence, but have the right to review it and make amendments if necessary, prior to signing.

Due to the exceptional nature of the proceedings, a witness may not refuse to answer a question on the basis that it may incriminate them and may be forced by the court/Master/commissioner, in consultation with the Director of Public Prosecutions, to answer. However, a witness may claim legal professional privilege and may refuse to answer a question on that basis. A general claim that certain documents or information are confidential will not be sufficient to withhold such information. Thus, if there is reason to believe that the information will be relevant to the affairs of the company, the commissioner may request access to them.

Where a witness who has been served with a subpoena is of the opinion that they may suffer prejudice as a result of the enquiry, they may apply to court to set aside the subpoena. Prior to an insolvency application having been granted, a potential witness may also oppose the application itself, albeit on limited grounds relating to jurisdiction, prejudice or certain exceptional circumstances.

Conclusion

The quasi-judicial nature of an insolvency enquiry makes it a useful tool for liquidators and interested parties alike to uncover potentially unscrupulous behaviour by directors and managers of a company. Specifically, it allows creditors to determine whether there is potential cause to recover its losses directly from persons involved in the affairs of the company, without having to make out a much more difficult case for piercing of the corporate veil.

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