Corporate South Africa has two years in which to ensure that it is compliant with the new Companies Act. The task, which will be tedious and time consuming but not complicated, will require corporate administrators, that army of unsung heroes, to convert existing memoranda of association and articles of association into the all-important Memorandum of Incorporation (MoI).
It will also be necessary for all shareholder agreements to be scrutinised to ensure that they do not contravene any of the provisions of the new act.
Michael Katz of law firm Edward Nathan Sonnenberg stresses the need to ensure that shareholder agreements are in line with the MoI. He talks of a “gap analysis” and states that “if there is a conflict between a shareholders’ agreement and the MoI, the latter will prevail”.
Apart from these changes “pre-existing” companies will operate as if they had been incorporated and registered under the new act with the same name and registration number. In addition a share issued by a “pre-existing” company before the date of the act’s implementation will continue to have all the rights associated with it.
Despite all of this administrative activity there is a significant chance that in the short term the change may not be as extensive as expected. Ironically, given that a major objective of the new act was to accommodate small businesses, it is very likely that most of the four million or so close corporations (CCs) that dominate our business landscape will delay conversion to the new corporate structure provided for in the new act. The original proposal to force CCs to convert was abandoned in later drafts of the act. As they will not be obliged to convert and given that there are few obvious advantages at this early stage, there seems little reason to do so now.
So enthusiastic is the support for the CC structure that accounting and law firms across the country are rushing to register “shelf” CCs ahead of May 1, 2011, the date at which the new act will come into effect. These experts are anticipating that individuals wanting to set up small businesses will, for the foreseeable future, continue to prefer the known benefits of the CC format to the unknown benefits of the new Act.
When the dust has settled CC proprietors will be better placed to determine whether there are conversion advantages and whether these advantages are sufficiently great to outweigh the disadvantage of having to engage with the new companies commission. This new commission, which has emerged out of the old ill-functioning companies’ office Cipro, is expected to battle for some time while it builds the capacity to deal with its considerably greater powers and functions.
It might be that by the time the dust settles on the new act, the commission will have sorted out its difficulties. Despite protestations from senior Department of Trade and Industry (dti) officials that all is well at the commission, anecdotal evidence suggests that this is far from the case.
Carl Stein, a partner at law firm Bowman & Gilfillan, who is advising clients to retain their CC status for the moment, describes the abolition of the CC in the new act as a “gamble” that was taken in the interests of simplicity. “The CC has been hugely successful because it is easy and cheap to run; these are critical considerations for individuals who want to set up their own small businesses.” Stein explains that the old act (1973) was designed primarily for large companies and was not really appropriate for small businesses. It was only in 1984 with the implementation of the Close Corporation Act that small businesses were provided with an appropriately easy and cheap structure. It proved phenomenally successful and accounts for 90 percent of corporate entities.
In terms of the new legislation, existing CCs will be allowed to continue indefinitely. The dti’s 2004 Policy Paper, which is the only official document that outlines the government’s objectives for company law reform, indicates that the simplicity and cheapness of the CC format was a significant factor influencing the design of the new act.
Stein argues that the CC was so successful that government realised that if it wanted a “one size fits all” corporate structure it needed to ensure that the new system would allow for companies to be managed as easily and cheaply as the CC Act allowed.
The dti not only had to address the simplicity and cost issue but also the fact that CCs do not have shareholders or directors; CCs only have members who have members’ interests in a CC. Stein says the challenge facing the drafters of the act is: “How do you create a private company which closely resembles a CC without scrapping the essential requirements that a company must have shares and directors?”
The solution was to give directors far greater powers than they had under the 1973 act. This was an attempt to mimic, within reason, the authority enjoyed by the all-powerful “members” in a CC.
The challenge was to give the directors greater power while ensuring that ultimate control of the company remains with the shareholders.
The act achieves these seemingly competing objectives in a number of ways – it allows directors to be given the power to determine nearly all aspects of the share structure of a company and it has removed the severe restrictions on the ability to alter a company’s share structure.
But crucially the act also gives shareholders the right to revoke or modify most of these new powers at any time. Such revocation or modification by the shareholders is effected through changes to the company’s MoI. It is for this reason that the role of the MoI in the new act comprises one of the most dramatic changes in the new law.
As Stein notes: “The power to amend the MoI ensures that the crucial powers of control of a company still vest exclusively with the shareholders.” He explains that until now there was a clear division of power between shareholders and directors. “Shareholders alone had the power to determine the make-up of every aspect of the company’s equity. They also had the sole right to appoint, remove and replace the directors, and to decide on issues that were outside the ordinary course of conduct of its business. Directors, on the other hand, were charged with the duty to manage and control the company’s day-to-day business operations, including representing the company in transacting with third parties.”
The new act contains the potential to alter this situation dramatically. That potential rests within what are known as the “alterable” provisions.