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The classification of creditor claims in a business rescue is, for a creditor, one of the most important aspects of the business rescue. This matter is governed by Companies Act No. 71 of 2008 (“the Companies Act”) and has been considered by our courts in several judgments. Various factors must be taken into account when determining the rank of a creditor and the dividend they will receive upon rescuing the business.

Creditor claims

From the outset, it is important for a creditor to distinguish between their pre-opening and post-opening claims (if any). The first relates to the amounts to be paid for goods and services provided before the start of the business rescue and the second to those provided afterwards. In addition, if a creditor holds security for his claim, his claim will be privileged.

Goods and services provided after the rescue begins may constitute post-start-up financing (“PCF”) and will also be given preference in ranking. However, this is not automatically the case. Of particular significance is the judgment in The South African Property Owners Association v Minister of Trade and Industry and Others 2018 (2) SA 523 (GP) (29 November 2016) (“SAPOA case”).

This case involved the classification of claims of creditors who continue to provide goods or services to the troubled entity under an agreement entered into before the rescue of the company. The court determined that the supply of such goods or services does not fall within the definition of PCF and therefore will not receive a classification preference.

In the SAPOA case, a landlord sought an order specifying the amount to be paid for PCF-qualified rental and ancillary services or costs arising from rescuing the business. The court held that post-opening financing, as provided for in section 135(2) of the Companies Act, “relates to obtaining financing in order to assist in exiting the company from its financial difficulties… It does not rely on an interpretation that encompasses the obligations … of the company which are used to assist in the management of the company during the process of rescuing the company.

Creditors should consider whether there is a basis on which their claims will be given preference in rescuing the business to ensure that claims are classified correctly.

Classification of business salvage claims

The courts have confirmed that claims are classified as follows in business rescue proceedings:

• first, the fees and costs of the BRP and associated with rescuing the company;
• second, the remuneration due to employees that became due after the start of the rescue of the company;
• third, claims secured by creditors for the provision of PCF;
• fourth, unsecured claims of creditors for the provision of PCF;
• fifth, claims secured before opening by creditors;
• sixth, remuneration due to employees which became due before the start of the rescue of the company; and
• seventh, all other claims, including unsecured claims of creditors prior to commencement of proceedings and claims for goods or services provided during the rescue of the business under a pre-existing agreement.

Can a corporate rescue professional change the classification of a claim?

Practitioners have tried to change this ranking in business bailouts. Whether this can be done has not yet been considered by our courts, but was considered by retired Justice Harms when he presided over the dispute settlement proceedings between the South African Pilot’s Association (” SAAPA”) and South African Airways SOC Ltd (“SAA”) during the course of SAA’s corporate rescue proceedings.

SAA’s corporate rescue practitioners had categorized pre-employee meal allowance claims as concurrent claims in the plan. The project was adopted. SAAPA, on behalf of the employees, argued that these were unsecured preferential claims under Section 144(2) of the Companies Act and should be treated as such. SAA argued that the adopted plan outweighs the legal preference and that the employees should cancel the plan to assert the claim.

Retired Judge Harms concluded that the plan (as adopted) could not override the statutory preference and that employee claims should be dealt with as required by the Companies Act. If the order or preference had to be decided by the practitioners or the majority of the creditors, the ranking provisions in the Companies Act would have been unnecessary. Retired Justice Harms reviewed the structure of Chapter 6 of the Companies Act (which deals with the rights of employees before those of other creditors) and the wording of section 144(2) when delivering his decision. . He concluded that to the extent that the plan changed classification, the specific provisions were ultra vires and there was no need to rescind the plan to enforce the employees’ claims.

When there is no longer any reasonable prospect of rescue

When there is no longer any reasonable prospect of rescuing a company, the company rescue procedure will be transformed into liquidation. Subsequently, the claims of creditors will be handled by a liquidator according to the principles applicable in this scenario.

The Companies Act expressly provides that the order of preference confirmed in Article 135, paragraph 4, will remain in force in liquidation proceedings preceded by a company rescue, with the exception of the classification of claims for liquidation costs. The order of enforcement of proceeds made in liquidation proceedings preceded by a corporate rescue, as set out in the Insolvency Act No. 24 of 1936 and considered in various case law, is the following :

• first, the secured creditors for the proceeds realized on their securities and after the costs of realizing these securities. In Diener NO v Minister of Justice and other 2018 (2) SA 399 (SCA) and National Union of Metalworkers of South Africa and other v VR Laser Services (Pty) Limited and other [2020] 2 All SA 536 (GJ), the courts reiterated that a secured creditor’s security could not be diluted or weakened in favor of other claims such as BRP compensation or post-claim employee compensation;
• second, liquidation costs;
• third, the remuneration and expenses of the BRP, as well as the costs of the company rescue proceedings (as envisaged in the Diener case);
• fourth, post-employment claims (as discussed in the VR Laser case);
• fifth, the secured claims of creditors after the opening of proceedings;
• sixth, unsecured claims of post-opening financial creditors;
• seventh, the enforcement costs prescribed in section 98 of the Insolvency Act;
• eighth, salaries and wages of former employees as prescribed in Section 98A of the Insolvency Act;
• ninth, the preferential claims satisfied the legal requirements prescribed in Section 99 of the Insolvency Act;
• tenth, preferential claims for tax obligations prescribed in Section 101 of the Insolvency Act;
• eleventh, the claim of a general bondholder under a general mortgage bond; and
• finally, the claims of non-preferred competing creditors.

Conclusion

Creditors should carefully review their claims and the surrounding circumstances to ensure that their claims are classified and given the required preference (if any) during the business rescue and subsequent liquidation proceedings.