In this note we analyze the FirstRand Case and highlight a few useful lessons for credit providers.

Transcription

1 MAY 2012 NEWSLETTER Loans to trusts learning caution from the misfortune of others Introduction A trust is a popular business structuring and estate planning vehicle in South Africa. Continuous refinements by our courts of legal principles relating to the law of trusts require constant vigilance from people who deal with trusts. Recently, in the case of Meijer NO and Another v FirstRand Bank Ltd (formerly known as First National Bank of Southern Africa) and Another, In re: FirstRand Bank Ltd (formerly known as First National Bank of Southern Africa) and Another v Meijer and Others [2123/2010] handed down by the Western Cape High Court, Cape Town on 4 April 2012 ( FirstRand Case ), the court declared void a transaction in terms of which FirstRand Bank Limited ( FirstRand ) lent and advanced R to the Veendam Trust ( Trust ) against registration of a mortgage bond over the immovable property with a residential dwelling owned by the Trust ( Trust Property ). In this note we analyze the FirstRand Case and highlight a few useful lessons for credit providers. For more information on this newsletter, please contact one of the following attorneys: The facts J Meijer, M Meijer and A Kotze were the initial trustees of the Trust. J Meijer, M Meijer, O and R Meijer (children of J and M Meijer) and the Anton Van Wouw Primary School were the beneficiaries of the Trust. In 2010 (about two years after the Trust was registered), the marriage between J and M Meijer was dissolved by divorce. In terms of the divorce settlement agreement, J Meijer agreed to resign as a trustee of the Trust. At the time of the divorce the Trust Property was fully paid up and unencumbered. On February 2001 a resolution was passed in terms of which J Meijer and A Kotze resigned as trustees of the Trust and resignation letters were sent to M Meijer (the sole remaining trustee of the Trust) with a request that she notifies the Master of the North Gauteng High Court, Pretoria ( Master ), of the resignations. During the same month and year, M Meijer addressed resignation letters and resolutions to the Master and requested the issuance of amended letters of authority. These documents were not transmitted to the Master. They were only lodged with the Master in April In January 2007 (before the resignation letters and resolutions were lodged with the Master), M Meijer (professing to act on behalf of the Trust as a sole trustee) applied to FirstRand for a loan of R and caused registration of the mortgage bond over the Trust Property as security for the loan ( Loan Transaction ). The Loan Transaction was fully implemented. The Trust defaulted on repayments, summons were issued against the Trust and M Meijer (in her personal capacity as a surety for the Trust), default judgment was granted in favour of FirstRand for the amount outstanding and the warrant of execution for the sale of the Trust Property was issued. J Meijer and A Kotze accidentally read that the Trust Property was to be sold in execution in the auction sale. Tony Tshivhase Director T +27 (0) E TonyT@tshivhaseinc.com Siyabonga Shandu Director T +27 (0) E SiyabongaS@tshivhaseinc.com 1 NewSLETTER MAY 2012

2 Loans to trusts learning caution from the misfortune of others They then approached the court for the rescission of judgment against the Trust, the setting aside of the warrant of execution for the sale of the Trust Property and an order interdicting FirstRand from selling the Trust Property in execution. On 8 July 2008, after the Loan Transaction had already been concluded, the Master issued updated letters of authority appointing one B Oosthuizen and O Meijer (the child of J Meijer and M Meijer), ( New Trustees ) as trustees replacing J Meijer and A Kotze. At the commencement of the hearing, the New Trustees deposed to an affidavit in terms of which they sought to ratify the decision of M Meijer to conclude the Loan Transaction purporting to be acting on behalf of the Trust. There are two key issues that were considered in the FirstRand Case, which we analyse below. First, whether or not the resignation of J Meijer and A Kotze as trustees of the Trust was only effective upon the issuance of the amended letters of authority by the Master. Second, whether or not the conclusion by M Meijer of the Loan Transaction whilst the Trust was incapacitated from operating (because of the lack of requisite minimum number of Trustees) was capable of being cured by ratification. Resignation as a trustee effective date Section 21 of the Trust Property Control Act, 57 of 1988 ( TPC Act ) provides as follows: Whether or not the trust instrument provides for the trustee s resignation, the trustee may resign by notice in writing to the Master and the ascertained beneficiaries who have legal capacity, or to the tutors or curators of the beneficiaries of the trust under tutorship or curatorship. At the time when M Meijer concluded the Loan Transaction, although J Meijer and A Kotze had resigned as trustees of the Trust, their resignation notice was neither sent to the Master nor to the ascertained beneficiaries as required in terms of s 21 of the TPC Act. It was therefore argued on behalf of J Meijer and A Kotze that, on the basis of the principle enunciated in WM Soekoe and Others v Le Roux 1 ( Soekoe Case ), they remained trustees of the Trust until the issuance by the Master of the new letters of authority. Dlodlo J rejected the principle in Soekoe Case and decided that proof of the fact that the necessary notice (letter of resignation) was in fact given to both the Master and the ascertained beneficiaries in writing should suffice [at Para 11]. Further, Dlodlo J said that in order to avoid any difficulties that may arise from the Soekoe Case: the resignation [of a trustee] should take effect not only upon it being shown that the written notice was sent to the Master and the ascertained beneficiaries, but upon an acknowledgment by the Master of receipt thereof. [at Para 11] It was then decided that J Meijer and A Kotze remained trustees of the Trust because their resignation did not comply with s 21 of the TPC Act. 2 The decision of Dlodlo J in this regard provides useful clarity on the effective date of resignation of trustees and should be welcomed for its rejection of the principle in the Soekoe Case which is, with respect, incorrect. It is not clear from the FirstRand Case whether or not there were any formalities for resignation of trustees of the Trust that were prescribed in the trust deed of the Trust. However, it should be appreciated that, as highlighted by Dlodlo J [at Para 8], a trustee s option to resign in accordance with s 21 of the TPC Act is in addition to any resignation formalities that may be provided for in a trust deed. Therefore, even if there may be resignation formalities set out in a trust deed, a trustee may still resign in accordance with s 21 of the TPC Act. Capacity of M Meijer to conclude the Loan Transaction In terms of clause 7.1 of the trust deed of the Trust ( Trust Deed ), the Trust was required to at all times have three trustees, provided that if the number of trustees fell below three due to resignation or death of a trustee, the remaining trustee(s) were authorised to exercise all powers of trustees for the retention and administration of the Trust funds until such time as additional trustees were appointed. FirstRand and M Meijer argued that the aforementioned clause 7.1 meant that where the quorum requirement was not met, a single trustee acting alone could bind the trust to the same extent as the full complement of trustees would have been entitled to do had they been in office. Dlodlo J dismissed this argument as flawed and legally untenable and decided that: When fewer trustees than the number specified in Clause 7.1 are in office, the Trust would suffer from an incapacity that precludes the borrowing of money or the encumbering of its [Trust s] assets by means of a mortgage bond Therefore the Second Respondent [M Meijer] was in law not in a position to bind the Trust when she purported to conclude the loan agreement with the First Respondent [FirstRand] and when she caused the trust property to be mortgaged. [at Para 19 to 20] [Emphasis added] Clauses similar to clause 7.1 are normal in trust deeds and they are clearly intended to ensure the preservation of a trust s assets and continued administration of a trust. It is therefore not surprising that the interpretation of clause 7.1 of the Trust Deed by FirstRand and M Meijer s counsel was rejected. 2 NewSLETTER MAY 2012

3 Loans to trusts learning caution from the misfortune of others Ratification of the decision of M Meijer by New Trustees In contract law, when a person (agent) acts on behalf of, or in the name of, another person (principal) without authority, that act (by the agent) may be ratified (by the principal). As already indicated, the New Trustees sought (through an affidavit) to ratify the decision of M Meijer to conclude the Loan Transaction. The court was called upon to decide whether or not the incapacity of the Trust to operate (due to the number of trustees of the Trust in office being less than the required minimum) at the time of the conclusion of the Loan Transaction could be ratified by the New Trustees. In this regard, Dlodlo J decided as follows: I emphasise that at the time of the conclusion of the FirstRand transactions, the Trust in the instant matter lacked the capacity to enter into the loan agreement and cause the property of the Trust to be mortgaged. As the Trust lacked contractual capacity to conclude the FirstRand transactions at the time, it cannot ratify even if it subsequently (upon the appointment by the Master of two additional trustees) acquired full contractual capacity. The purported ratification on the part of Mr Oosthuizen is, in the premises, of no consequence. [at Para 29], [Emphasis added] One of the reasons FirstRand and M Meijer failed to convince the court that ratification was an option was that it was not argued that M Meijer acted as an agent of the trustees of the Trustee when she concluded the Loan Transaction; the gravamen of their argument was that M Meijer acted as a sole trustee of the Trust as authorised to do so in terms of the Trust Deed. Dlodlo J decided that the reliance on ratification was misplaced because the issue was not lack of authority but lack of contractual capacity of the Trust to conclude the Loan Transaction. Having decided that clause 7.1 only empowered the Trust to act when there is a minimum of three trustees in office and that the purported conclusion of the Loan Transaction by M Meijer was of no legal force or effect, it was decided that ratification was not possible if a transaction sought to be ratified is null and void. Based on the FirstRand Case and other cases where ratification was raised in the context of the law of trusts, 3 it is submitted that ratification arguments under the law of trusts are premised on the lack of appreciation that a trust is not a legal person (in the same manner as a private company or close corporation), that trustees must, when transacting on behalf of a trust, act jointly and that if the number of trustees decrease below the minimum number set out in a trust deed, the remaining trustees are incapacitated from binding such trust until a minimum number has been retained. In the context of the FirstRand Case, this means even if M Meijer had one co-trustee at the time of the conclusion of the Loan Transaction, the Loan Transaction was still going to be void (because the Trust Deed required a minimum of three Trustees). Conclusion After considering all the issues, the court decided that J Meijer and A Kotze were successful in showing good cause for the rescission of the judgment against the Trust; consequently, the default judgment against the Trust and the warrant of execution for the sale of the Trust Property were cancelled and FirstRand was interdicted from selling the Trust Property. The FirstRand Case is a salutary reminder to credit providers that when dealing with trusts, a comprehensive due diligence investigation is critical. This should include reviewing the latest trust deed and letters of authority of a trust in issue and getting permission from the trustees to request a file from the relevant Master s officer to establish whether or not documents submitted to a credit provider for a loan application by a trust are similar to documents in the Master s office file. Due to lack of effective filing systems in some of the Master s offices, requesting files from the Master each time a credit provider is considering a loan application from a trust may be time consuming. However, it is submitted that the exercise is an important preventative measure which ought not to be sacrificed on the altar of exigency. 1 (898/2007) [2007] ZAFSHC 135 (29 November 2007), as yet unreported. 2 This means J Meijer and A Kotze were still trustees of the Trust at the time when M Meijer concluded the Loan Transaction purporting to act as a sole trustee. 3 These are some of the leading cases on ratification: Simplex (Pty) Ltd v Van Der Merwe and Others 1996 (1) SA 111(W), Land and Agricultural Bank of South Africa v Parker and Others 2005 (2) SA 77 (SCA) and Thorpe and Others v Trittenwein and Another 2007 (2) SA 172 (SCA). 3 NewSLETTER MAY 2012

4 Review of shareholders agreements the clock is ticking A year has passed since the new Companies Act, 71 of 2008 ( Act ) became effective. It may therefore be safe to assume that most business people are generally aware of the impact of the Act on constitutional documents of companies. This note reminds those who already know, and inform those who may not know, about the importance of reviewing shareholders agreements concluded prior to 1 May 2011 (being the date on which the Act became operational). The popularity of a shareholders agreement over the years, as a document that regulates the relationship between shareholders and a company as well as the relationship between shareholders, is enough testament to its utility in relation to private companies. The Act also underscores such usefulness. Section 15(7) of the Act provides that shareholders of a company may enter into any agreement with one another concerning any matter relating to the company, but any such agreement must be consistent with the Act and the company s Memorandum of Incorporation ( MOI ). The section further provides that any provision of such an agreement which is not so consistent with the Act and the company s MOI is void to the extent of its inconsistency. Almost all shareholders agreements concluded prior to 1 May 2011 contain a clause to the effect that if there is a conflict between a provision of the company s MOI 1 and a provision of the company s shareholders agreement, a provision of the latter prevails. Therefore, s 15(7) of the Act renders such clauses unenforceable because it provides that a provision of a shareholders agreement must be consistent with a provision of the Act and the company s MOI. The immediate application of s 15(7) of the Act and other new concepts which were introduced to South African company law by the Act was likely to cause uncertainty and stifle enterprise efficiency. To avoid this, Schedule 5, Item 4(3A) of the Act provides that a shareholders agreement concluded prior to 1 May 2011 will, notwithstanding s 15(7) of the Act, continue to be enforceable until 30 April 2013 or until changed by the parties thereto. A similar transitional arrangement is entrenched in relation to the MOI of companies incorporated prior to 1 May In this regard Schedule 5, Item 4(4) of the Act provides that until 30 April 2013, if there is a conflict between a provision of the MOI of a company incorporated prior to 1 May 2011 and a provision of the Act, a provision of the former prevails, except to the extent that Schedule 5 provides otherwise. 2 One of the main reasons for the importance of reviewing shareholders agreements is the introduction of the new concepts of alterable 3 and unalterable 4 provisions in terms of the Act. Effectively, alterable provisions can only be qualified in the company MOI and not in the shareholders agreement. 5 Further, a higher standard, greater restriction, longer period of time or more onerous requirement than would otherwise apply in terms of an unalterable provision of the Act may only be imposed on a company through its MOI and not the shareholders agreement. 6 The distinction between alterable and unalterable provisions means certain issues that were traditionally dealt with in a shareholders agreement must, during a review process, be migrated to the company s MOI. Therefore, a review of the company s shareholders agreement must be done simultaneously with a review of its MOI to achieve synergy. The following hypothetical examples demonstrate the importance of reviewing shareholders agreements and MOIs timeously A shareholders agreement provides that a company cannot issue shares in its authorised but unissued capital without the prior written consent of all of its shareholders in terms of s 38(1) of the Act, the board of directors of a company may issue shares from the authorised but unissued capital of the company at any time: In this instance, after 30 April 2013, protection that shareholders enjoy from the restriction on the issuance of shares will be eroded unless such a restriction is timeously migrated from the shareholders agreement to the MOI; A shareholders agreement provides that shareholders of the company do not have pre-emptive rights to subscribe for new shares in the company proportionately before such shares may be issued to any other person in terms of s 39(2) of the Act, the default position is that shareholders of private companies have such a pre-emptive right: If shareholders want to negate and/or place conditions on the pre-emptive right on the issuance of shares, the shareholders agreement must be amended before 30 April 2013 and the restriction on the pre-emptive rights on issuance of shares must be migrated to the company s MOI; if it is not so migrated, s 39(2) of the Act will apply; A shareholders agreement provides that power to declare and pay a dividend reside with the shareholders in terms of s 46 of the Act, the board of directors of a company is empowered to authorise distributions: 7 After 30 April 2013, the provision of the shareholders agreement will be unenforceable 4 NewSLETTER MAY 2012

5 Review of shareholders agreements the clock is ticking unless the restriction on declaration and payment of a dividend (including other forms of distributions) is migrated from the shareholders agreement to the company s MOI; and A shareholders agreement gives minority shareholders a right to veto certain decisions of majority shareholders or the board of directors of a company (minority protections) the incorporation of minority protections (or reserved matters) in shareholders agreements is not prohibited by the Act: Although it has been opined that one of the primary purposes of a shareholders agreement is to eliminate the tyranny of the majority, 8 it would seem that minority shareholders will enjoy greater protection against the tyranny of the majority if minority protections are contained in the company s MOI (as opposed to shareholders agreements). Most clients have argued that because a provision of the shareholders agreement cannot (after 30 April 2013) override a provision of the MOI, there is no need to review such agreements and everything may be lumped together in the MOI. Our emphatic counsel in this regard is that the utility of a shareholders agreement is not going to be diminished under the Act because it provides shareholders and companies with a platform to deal with confidential contractual issues privately. 9 The MOI is lodged with the Companies and Intellectual Property Commission ( CIPC ) and may be accessed by the general public. In terms of s 171 of the Act, the CIPC may issue a compliance notice to a non-compliant person compelling such person to comply with the Act. Even if a compliance notice is not issued, a shareholder may find that a protection that was negotiated and incorporated into a company s shareholders agreement prior to 1 May 2011 may be overridden by alterable provisions of the Act and leave such a shareholder vulnerable. Therefore, reviewing constitutional documents should not be seen as a compliance burden; it is an important risk mitigation exercise. A recent survey has revealed that only 52 % of private companies required in terms of s 74 of the Act to form Social and Ethics Committees have complied with the Act and that many companies were not even aware that an exemption was possible. 10 The Act gave relevant companies until 1 May 2012 to comply. A relaxed approach that seems to have been taken by almost half of private companies in relation to compliance with s 74 of the Act is not an option in relation to the review of shareholders agreements and MOIs because of a risk of shareholder disputes being resolved through expensive and unpredictable court processes. 1 In terms of the Act, MOI, in relation to companies incorporated prior to 1 May 2011, refers to documents that were known as memorandum of association and articles of association under the old Companies Act. 2 This exception is important. There are certain provisions of the Act which became applicable with effect from 1 May 2011 (i.e. no grace period is applicable) Therefore, companies should always be cognisant of the provisions of Schedule 5, Item 7(5) of the Act when dealing with duties of directors, convening of meetings and adoption of resolutions. 3 An alterable provision is a provision of the Act in which it is expressly contemplated that its effect on a particular company may be negated, restricted, limited, qualified, extended or otherwise altered in substance or effect by that company s MOI (the alterable provisions normally, but not necessarily, contain the phrase Unless the Memorandum of Incorporation or rules of a company provide otherwise ). 4 An unalterable provision is a provision of the Act that does not expressly contemplate that its effect on any particular company may be negated, restricted, limited, qualified, extended or otherwise altered in substance or effect in by a company s MOI. 5 S 15(2)(a)(ii) of the Act provides that the MOI may include any provision altering the effect of any alterable provision of the Act. 6 See s 15(2)(a)(iii) of the Act. Further, in terms of s 15(2)(a)(i) of the Act, the MOI may deal with any matter that the Act does not address. 7 The definition of distribution (contained in s 1 of the Act) includes transfer by a company of its money or property in the form of a dividend. 8 A Elson, Shareholders Agreements: A Shield for Minority Shareholders of Close Corporations (1967) 22 Business Lawyer, Issues that companies may wish to deal with privately include shareholder restraint of trade provisions, forced sale provisions, warranties and representations and confidentiality undertakings. 10 Thousands of firms miss Companies Act deadline Business Day, 2 May 2012, (available at: aspx?id=170731, accessed on 2 May 2012). Disclaimer: This newsletter is provided for general information only and does not constitute legal or other professional advice. Appropriate legal or other professional advice should be obtained before taking or omitting to take any action in respect of any specific issue. Tony Tshivhase Incorporated, its employees and directors accept no liability whatsoever for any loss or damage which may arise from reliance on information contained in this newsletter. To the extent that this newsletter contains links to websites other than the Tony Tshivhase Incorporated website, Tony Tshivhase Incorporated has no responsibility for any websites other than its own, and does not endorse the information, content, presentation or accuracy, or make any warranty, express or implied, regarding any other website. 5 NewSLETTER MAY 2012