Business rescue: commercial suicide versus personal liability

Sarah Love of Private Client Holdings advises that when the directors of that company believe that their company is in financial distress, but they do not want to start business rescue proceedings, they are required to inform all the stakeholders (shareholders, creditors and employees), in writing.

Commercial suicide?

However, Dirk Kotze, of Dirk Kotze Attorneys, states in an article which he wrote that appeared in De Rebus, that giving notice that your business is experiencing financial difficulties is perceived to be equal to commercial suicide by a company, as its creditors may no longer be willing to supply goods or services on favourable credit terms and banks or financial institutions will, in all likelihood, withdraw all credit facilities or at least substantially reduce such facilities.

"It is because of this threatened 'commercial suicide' that many directors may choose not to give the required notice," says Love, who cautions that this may open the door to personal liability.

"Once the liquidation process has been started, the creditors of a company may hold an insolvency enquiry, during which the directors may be faced with questions such as why the board did not inform stakeholders that the company was facing financial difficulties; or why the board did not place the company under business rescue?"

According to Love, in terms of section 129(7) of the Companies Act, if the board of a company believes that the company is in financial distress, but decides not to begin business rescue proceedings then it must deliver a written notice to the affected parties, explaining why they have not started business rescue proceeding.

Personal liability

So what happens when the directors do not comply with this duty and creditors suffer losses as a result?

Love advises that the Companies Act makes it clear that any person who does not comply with the Act will be liable to any other person for the loss or damage caused.

"Failure to comply may lead to the conclusion that the directors of the company acted recklessly, negligently and/or fraudulently and then the shareholders and creditors may choose to claim their losses directly from the directors of that company."

Directors can be held personally liable for the debts of a company if they are perceived to have traded recklessly and choosing not to start business rescue proceedings could be considered evidence of this recklessness.

So is it a damned if you do and damned if you don't kind of situation? Love concludes that directors should consider all the risks involved and note that a failure to notify stakeholders of the financial distress of your business and the reasons why you have chosen not to start business rescue proceedings for fear of the threatened "commercial suicide" before declaring liquidation may lead to personal liability for the debts of the company.

For more information, go to www.privateclient.co.za.