Tuesday, November 10, 2009

Avoidance orders are unfamiliar territory to most business entities; yet, applied timeously, they are a critical tool in the creditor armoury.
Section 420 of the Companies Act provides that when a company has been dissolved, an interested party may apply to court for an order declaring the dissolution to be void.  The order is known as an “avoidance order” because it is has the effect of avoiding the dissolution of the company.
In reality, it recreates the company in the same condition it was when it was dissolved.
Avoidance orders are typically sought where a liquidator, in winding up a company, has overlooked assets which belonged to the company and which, if they had been recovered, could have satisfied a claim that might otherwise have gone unpaid.
An avoidance order is also appropriate where the Master of the High Court has erroneously granted a section 419 certificate dissolving the company.
Section 420 does not prescribe the circumstances in which a court will grant an avoidance order. Indeed, the court enjoys a discretion.  Ordinarily the court will not grant an avoidance order unless:
·         Some unforeseen event has occurred (for example, the discovery of new assets);
·         There has been some fraud or concealment; or
·         The dissolution has become an instrument of injustice. 
Section 420 does not define what manner of “interest” is required in order to bring an application for an avoidance order – which begs the question: Must one have a financial or proprietary interest or may the applicant’s interests be broader?
In Hillcrest Village (Pty) Ltd v Waterkloofspruit Projects (Pty) Ltd, the Pretoria High Court supported the view that an applicant for an avoidance order could have non-proprietary or non-pecuniary interests.  The court found that fraud allegations against the liquidators raised in that case gave the applicants a sufficient interest to bring the application, and the court ultimately granted the avoidance order.
The case was appealed to the Supreme Court of Appeal (SCA), which overturned the Pretoria court’s decision. It would not go so far as to find fraud on the part of the liquidators. At most it was prepared to hold that there had been certain irregularities by the liquidators and that in the circumstances, if an avoidance order was granted, the dissolved company might well have a claim against the liquidators. 
The SCA did not consider whether the applicant was entitled to bring an application in terms of section 420 and did not consider this issue.  But what is apparent from the SCA’s reasoning is that in exercising its discretion under section 420 it focused almost exclusively on whether granting avoidance would result in a financial benefit to the applicant.
In exercising its discretion, the SCA did not appear to take into account irregularities which did not give the applicant an actionable claim or potential financial benefit.  Although the SCA was prepared to accept that the applicant might have a financial interest in avoidance, the chances of the avoidance order resulting in an actual financial benefit to the applicant was remote. This weighed against the granting of an avoidance order.
It has further been a long standing practice in the implementation of section 420 that when exercising their discretion the courts will consider whether the applicant acquiesced in the action about which it complains or whether it delayed in applying for the avoidance order.
In the case in question, the transaction about which the applicant complained was an immovable property auction that took place in March 2001.
The first and final liquidation and distribution account was approved by the Master in December 2002 and the company was dissolved in May 2004. The application for the avoidance order appears to have been brought in early 2006 or, at best, late 2005.
This, according to the SCA, was too late – a factor exacerbated by the applicant having failed to lodge an objection to the liquidation and distribution account.  The applicant had, on the facts before the court, shown a complete disinterest in the liquidation process. 
The lack of a financial benefit to the applicant appears to have weighed heavily in the SCA’s mind when exercising its discretion.  Despite three paragraphs devoted to the irregularities committed by the liquidators, these irregularities were not enough to result in an order of avoidance.
The Pretoria judgment, which goes beyond mere pecuniary and proprietary interests, was not, however, over-ruled and can perhaps still be relied upon.  Yet it does appear that in the absence of an applicant being able to demonstrate that an avoidance order is likely to result in some practical benefit to it, avoidance will not be granted.
The case is also a reminder to creditors that they should not sit idly by and expect a court to come to their aid under section 420 if they take no interest in the insolvency proceedings and fail to act timeously to exercise their rights.