Business Rescue: The Liability of Sureties to Creditors

Sureties beware! The implementation of a business rescue plan does not necessarily extinguish your liability to creditors. While a principal debtor may be automatically released from part of their liability, the release is not automatic for sureties and depends on the construction of the business rescue plan in question.

The Supreme Court of Appeal in van Zyl v Auto Commodities recently ruled on business rescue proceedings’ effect on sureties. The case serves as a critical forewarning to creditors acceding to business rescue plans and those considering standing surety for a company’s debts.

Background

Auto Commodities (Pty) Ltd (“Auto Commodities”) supplied petroleum products on credit to Blue Chip Mining and Drilling (Pty) Ltd  (“BCM”). BCM’s CEO at the time, Mr Van Zyl, bound himself as surety for the company’s debts to Auto Commodities. Subsequently, BCM fell into financial difficulties and went into business rescue. The business rescue plan provided, amongst other things, that ‘upon adoption of … [the] Business Rescue Plan … the Company will be released from the payment of some of its debts’. The Business Rescue Practitioner implemented the plan. As a result, Auto Commodities received dividends, totalling R 1 900 000 in partial payment of their debt. After the substantial implementation of the business plan, business rescue terminated.

After the termination, Auto Commodities successfully sued Mr Van Zyl in his capacity as surety for the shortfall of BCM’s original indebtedness. The broad question of law on appeal was whether the appellant was liable to pay the outstanding amount claimed by Auto Commodities. Defining the ambit of liability required the court to clarify and discern the effects of section 154(1) and 154(2) of the Companies Act.

In arguing that he was not liable, Mr Van Zyl relied on section 154 of the Companies Act, titled ‘Discharge of debts and claims’, and more specifically on section 154(2), which provides that:

“if a business rescue plan had been approved and implemented in accordance with the Act, a creditor was not entitled to enforce any debt owed by the company immediately before the beginning of the business rescue process, except to the extent provided for in the business rescue plan.”

Mr van Zyl argued that Section 154 (2) should be interpreted to release him from liability as surety because BCM’s business rescue plan had been implemented, releasing BCM from any further indebtedness to Auto Commodities.  Accordingly, given that suretyship was an accessory obligation, he submitted that he had been released from liability.

Pursuant to making its decision, the SCA considered an alternative interpretation of section 154 (2). This interpretation prevented enforcement of the debt against the company but went no further. According to this construction of section 154(2), the impact of implementing and approving a business rescue plan was that a company was granted personal protection against the enforcement of debt without discharging the debt itself. Accordingly, the creditor could still pursue the surety for enforcement of the debt.

The SCA favoured this alternative construction. It held that the ambit of section 154(2) only prevents a creditor from pursuing claims against the company after the substantial implementation of a business rescue plan; it does not affect or extinguish the liability of a surety to a debt.

This was in contrast, the SCA held, to the situation provided for under section 154(1) of the Companies Act, which states:

“A business rescue plan may provide that, if it is implemented in accordance with its terms and conditions, a creditor who has acceded to the discharge of the whole or part of a debt owing to that creditor will lose the right to enforce the relevant debt or part of it.”

Thus, under section 154(1), creditors acceding to the discharge of debt per a business rescue plan would lose the right to enforce such debt on the implementation of the business rescue. Not only does the creditor lose the right to enforce the debt, but the company’s debt itself is discharged. In that situation, the surety would also be discharged. This was not the case for Mr van Zyl.

Notably, the practical effect of subsections (1) and (2), as between the creditor and the debtor company, is the same. In both, a creditor may not enforce their claim beyond the extent permitted by a plan. Thus, the wording in subsection (2) implies that the legislative intent of the distinction was to provide for creditors’ claims against sureties, among others, and not to extinguish these claims.

Further, the favoured interpretative distinction in meaning and legal consequence between the two subsections affords substance to the heading to the section’ discharge of debts and claims’. If both subsections resulted in the discharge of a company’s debts, the reference to the discharge of claims would be redundant.

Conclusion

Accordingly, the SCA rejected the appellant’s argument that he was automatically released from liability upon adoption and implementation of BCM’s business rescue plan. In the circumstances, the appeal was dismissed.

If you are contemplating entering a suretyship agreement, it is always recommended to obtain legal advice.