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Lazy Creditors and the Free Rider Problem in Business Rescue

07 March 2013

Routledge Modise

It happens that a business rescue plan is successfully adopted and then implemented, leaving funds in the company to be distributed to creditors. The question that arises is which creditors ought to be paid dividends when not all the creditors have taken the time and trouble to lodge their claims, attend meetings of creditors and vote on the business rescue plan.

The crisp issue is whether a business rescue practitioner is legally obliged to or ought to pay dividends to those creditors of the company in business rescue who, despite being listed as such in the books and records of the company, and despite being given notice of the business rescue, all the meetings and the business rescue plan, have never bothered to lodge their claims.

This would be particularly important where the lazy creditors' claims form a substantial portion of the total claims against the company. If the lazy creditors are paid, the dividends to the other creditors would be substantially reduced – and vice versa.

The law is unclear on whether free riders are legally entitled to be paid dividends. The Companies Act 71 of 2008 envisages the concept of proof of claims in various sections. See section 147(1)(a)(ii) which contemplates but does not prescribe proof of claims at the first meeting of creditors, section 150(2)(a)(ii) which requires the practitioner to set out in the plan a list of creditors and an indication of those that have proved their claims, and section 152(4)(c) which provides that an adopted plan is binding on creditors whether or not they had proved their claims.  However, the Act provides no guidance as to how proofs of claims should be adjudicated, or more importantly what the legal consequences would be for creditors who do not prove their claims.

The practitioner could provide legal justifications for going either way. On the one hand it could be argued that the Act does not expressly provide that creditors who fail to prove their claims should be excluded from a distribution and therefore one must assume that they are not excluded. On the other hand one could argue that the legislature would not have made reference to proof of claims unless legal consequences flowed from proving or not proving claims.

In an ideal world the legally unassailable way to deal with this lacuna once and for all, would be to include in the business rescue plan a specific provision that any creditor which does not prove its claim to the practitioner's reasonable satisfaction by a specified date or before the happening of a specified event, will not receive any dividend and will forfeit its claim against the company entirely. This principle will then be binding on all the creditors in terms of section 154 of the Companies Act.

If the above provision has not been included in the plan, I would suggest for the sake of prudence that practitioners ought to give lazy creditors one last chance, by means of a warning letter. This letter must be sent in a manner that guarantees quick receipt (ie. by fax or email and not by registered post) and proof of transmission must be kept by the practitioner on file. Creditors should be informed that they must lodge their claims to the reasonable satisfaction of the practitioner within a fixed time period, failing which they will be excluded from the distribution and have no right of recourse against proven creditors who did receive dividends.

The free riders would then find it hard to gain the sympathy of the court, if they later wake up and complain that they were excluded from the distribution of dividends.

The team

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