SHOULD DIRECTORS COUGH UP FOR COMPANY DEBTS?

by Garry Hertzberg and Natasha Sonblo of hersalaw.co.za

You’ve supplied R1.2 million worth of paint to a long-standing customer, trusting in their history of regular payments. But when the due date passes without a cent, the real picture emerges—the business has shut its doors, liquidation proceedings are underway, and the director is nowhere to be found. A calculated move or reckless trading? If the company bought knowing it couldn’t pay, can the director simply walk away so easily. Here’s what the law says about holding directors personally accountable assuming there’s no suretyship in place.

Reckless Trading or Entrepreneurial Risk?

Section 424(1) of the Companies Act holds directors personally liable for a company’s debts if they were knowingly involved in reckless or fraudulent trading. If a business is run with intent to defraud creditors—or in a manner so irresponsible that it borders on recklessness.

Our Courts have said that “If a company continues to carry on business and to incur debts when, in the opinion of reasonable businessmen, standing in the shoes of the directors, there would be no reasonable prospect of the creditors receiving payment when due, it will in general be a proper inference that the business is being carried on recklessly.”

In a judgment handed down this month, a Western Cape high Court Judge said that it is important not to apply section 424(1) in a manner that renders it impossible for company directors to take entrepreneurial risk in carrying on the business of a company. However, in summary the Court said that the incurring of debts on behalf of a company at a time when no reasonable businessperson would consider that the company would be able to satisfy those debts when they fall due would?prima facie?demonstrate reckless trading even if the directors?bona fide?thought otherwise.

There is a fine balancing act between entrepreneurial risk and recklessness and each case must be decided on its merits, but directors should not easily get away with unlawful behaviour and should be made to cough up!