By Jan Kruger Tuesday, August 21, 2012

The new Companies Act, which took effect on May 1 last year, brings a much greater degree of flexibility to structuring black economic empowerment (BEE), merger and acquisition (M&A) and other share financing transactions which, together with the introduction of the concept of a shareholding trust to provide for the future settlement of shares, is likely to provide a much needed boost to the number of BEE and general M&A deals being done.

Issuing preference shares in accordance with the 1973 Companies Act has tended to be the standard method of funding BEE transactions, but under the new Companies Act there is no definition or specific provision for preference shares, as opposed to ordinary or equity shares. Instead, the new Act allows for any number of classes of shares to be issued with any set of preferences, rights and limitations.

This introduces a significant degree of flexibility and affords boards of directors wide powers, unless these are limited by the company’s Memorandum of Incorporation (MoI), which sets out the number and classes of authorised shares, and the rights, privileges, limitations and other terms associated with each class of shares.

Unless limited by the MoI, the board has wide powers to classify shares, determine the rights, privileges, limitations or other terms of these classes of shares, and to increase or reduce the number of authorised shares. Where the MoI doesn’t limit the powers of directors, this will reduce the time and costs associated with the implementation of these types of transactions, since it doesn’t require the approval of shareholders.

Section 37 of the new Companies Act, which deals with preferences, rights, limitations and other share terms, is similar to the old Act in that all shareholders in the same class have the same rights, and in general each share has a general voting right. However, the MoI may provide for any form of special, limited or conditional voting rights and these, and other rights, preferences and limitations, may differ between the different classes of shares. In addition these rights, preferences, limitations and other terms relating to the different classes of shares may vary based on “objectively ascertainable external facts.

The new Companies Act also allows for the retrospective authorisation of the issuance of unauthorised shares, within 60 business days of issuance. Potential investors and boards wishing to subscribe or issue fresh shares in order to effect BEE or M&A transactions, will need to take notice of Section 39, which stipulates that existing shareholders in private companies, or public and state owned companies if their MoI’s so prescribe, have pre-emptive rights in the case of these companies issuing more shares – unless this is limited or negated by the MoI.

Section 40 of the new Companies Act deals with consideration for shares and, in a significant development, introduces the concept of a shareholding trust.

The board determines what ‘adequate’ consideration is, and the principle that in general shares can’t be issued unless fully paid up is common to both the old and the new Companies Acts.

In this regard, the new Companies Act provides an exception to this general principle, by allowing the issuance of shares to be transferred to a third party, to be held in trust, where the consideration for the shares is in the form of an instrument with a future value or in terms of an agreement for the provision of future services, payments or other benefits. This in effect allows for shares to be issued in trust on credit or for so-called “sweat capital” in the form of services.

The shares are therefore held in trust by a third party for an agreed period or subject to specific conditions contained in the trust agreement and are transferred to the intended beneficiary as and when payment is made, value or benefits are received or services performed.

This is particularly significant in the context of BEE transactions where under the new Companies Act, instead of requiring the subscribing party to provide large amounts of capital up front, it can be paid off over time or alternatively the new shareholder can bring other benefits or services to the table. This feature can also find application in large projects where service providers or contractors can become shareholders in return for services. While the shares are held in trust, the trust agreement will regulate the extent and manner in which shareholders rights may be exercised and if the shares were issued against future payment or credit, dividends paid on the shares can be used to pay the debt.

The shareholding trust concept is currently not being used to any great extent, but we expect that to change as its potential application becomes better known and as the frequency of BEE and M&A deals picks up.

Bowman Gilfillan’s view is that although the term “trust” is not defined in the new Companies Act, the concept as used in the Companies Act is consistent with the definition in the Trust Property Control Act, Act 57 of 1988. Consequently, shareholding trusts in terms of section 40 of the new Companies Act, would be subject to the terms, conditions and protections of this act, including the duties and obligations of trustees.

The greater flexibility that the new Companies Act brings to structuring and financing BEE and M&A transactions is to be welcomed. Where BEE deals are concerned, the shareholding trust concept to facilitate the future settlement, either in cash or other benefits, of shares is likely to provide welcome impetus to the number of transactions being done.