Turnarounds: Does business rescue have the right remedy

Those in the know say both pros and cons should be weighed

Lies, damned lies, and statistics. That was the general reaction to recent reports that local liquidation figures had dropped 71% year-on- year in May, implying that things have just become a whole lot rosier in the business world.

The last time figures were this low was before November 2007 when the global financial crisis had yet to put its boots on. Surely a drop this radical can't be attributed to business rescue, the new turnaround strategy for companies in crisis, which was implemented at the beginning of the month?

Adam Harris, attorney at Bowman Gilfillan, believes it's possible, but indirectly. He says the anomaly might have come about through managers of distressed businesses having held on financially until the new law was passed. By entering into business rescue they are protected from creditors who want to take legal action against them to get their money back.

Sandile Hlophe, a managing partner at KPMG and CEO of Turnaround Management Association (TMA), believes many of the businesses that were really unsustainable were probably exposed during the downturn and have been flushed out of the system.

He says in the current environment creditors know they will get very little money from a fire sale of assets, and because of the new legislation coming into play it is possible those owed money have waited to put their debtors into business rescue rather than liquidate them. Hlophe says they'll probably get 6c for every rand going the liquidation route, but they could get 60c for every rand through business rescue.

Jan van der Walt, CEO of Corporate Renewal Solutions who has been involved in the turnaround of financially distressed companies for more than 28 years, says statistics might have been skewed by liquidators facing huge backlogs, with liquidations in process but not yet resolved. He recommends waiting another month or two to see whether the lower liquidation statistics are a sustainable trend.

Whatever the facts behind the figures, industry experts concur on one thing - they can't be taken at face value. We are not having a financial party all of a sudden, and many businesses are still struggling.

Chapter 6 of the New Companies Act, which refers to business rescue, has taken the place of judicial management, which was a ground-breaking notion when it was implemented in 1926.

However, according to Anneli Loubser, professor in corporate law at Unisa, it was never widely accepted or used, despite efforts to improve it over the years. The process was onerous and expensive, requiring a high court ruling for it to be set in motion. It was also usually a precursor to insolvency anyway, so it offered little protection to stakeholders other than creditors.

Business rescue might have passed into legislation on May 1, but the accreditation process for practitioners is still being agreed on.

The CIPC, formerly Cipro, has however started granting interim licences, and Advocate Rory Voller, acting commissioner of the CIPC, maintains that the lack of an accreditation process has not delayed businesses entering into business rescue. He says companies simply need to identify a prospective practitioner they want to work with and this individual will be considered for licensing on an urgent basis.

However, the news that interim licences are being granted has been slow to filter through and relatively few business rescues have started - another reason Van der Walt is sceptical the insolvency statistics are related to the new legislation.

Van der Walt, who is also the certification director of the TMA, believes that all turnaround practitioners, including business rescue practitioners, should be certified in future. The TMA is developing the Certified Turnaround Professional (CTP) qualification, which should be ready in early 2012.

Candidates will need to have appropriate experience as well as pass exams in turnaround management, law and accounting.

The CTP Governance Board will be chaired by Professor Mervyn King, with Judge Ralph Zulman as his deputy.

There are several informal ways a financially distressed company can be turned around, one of which is known as "workout". Van der Walt says workout has some benefits business rescue doesn't.

One of these is that the company also avoids the indirect costs associated with the damage to reputation caused by bankruptcy, and a second is that it avoids the legal costs of business rescue, which may turn out to be too expensive for small companies.

But business rescue has the major advantage of a moratorium on claims against the company, which gives it breathing space while the business rescue practitioner works out if the company can in fact be turned around. If this is the case, a business rescue plan is created and offered for approval by creditors.

In both processes, creditors have the final say.

Van der Walt is excited about the new Chapter 6 business rescue legislation, which he says "represents a codification of the turnaround procedures used in workout" and that it is aimed at protecting all the company's stakeholders, not just its creditors. Above all, business rescue aims to protect employees who would be out of work if the company folded.

The process can be initiated by a company's board of directors or by a court order brought by shareholders, creditors, employees or trade unions.

During liquidation proceedings, it is also possible for the court to rule that the company enters into business rescue if it is believed to be salvageable.

Successful business rescue is vital for a growing economy such as SA's where unemployment is rife, and where any losses to the fiscus through liquidation urgently need to be stemmed.

However, there are some concerns surrounding the business rescue legislation as it stands. The Business Environment Specialists round table discussion document points out that the model needs to balance the rights of debtors against creditors - otherwise financiers, both local and foreign, will be discouraged from lending to businesses.

Van der Walt says industry may be disappointed by low business rescue success rates. But it needs to be seen in context. In the US and Canada, for example, business rescue success stands at between 75% and 80%.

But only a small percentage of business rescue plans are approved in the US, because it is relatively easy for economically unviable companies to file for business rescue. Canada is more stringent about allowing only the more economically viable companies to enter business rescue.

Van der Walt likens the situation to an emergency ward at a hospital - if most cases are terminal, most patients will die.

SA's Chapter 6 is unique in that it allows companies to enter business rescue up to six months before insolvency whilst still potentially economically viable.

But it remains to be seen how many companies will wait until the last moment, and how many of these will be allowed to enter the business rescue process only to fail.