Importance of due diligence and company compliance

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By Adri Badenhorst

The Company Secretary plays a vital role to ensure that a company complies with governing regulations and statutes. The Company Secretary can take on a role as an advisor of the board of directors and give guidance as to how certain policies and plans can be implemented. Another important role includes the registration of allotted shares in the register, the issue of share certificates and correspondence on behalf of the company regarding any administrative enquiries. 

The role of a Company Secretary developed over time from a pure administrative position, to someone who ensures that a company complies with the requirements of corporate governance and acts as a governance official within the company. Any changes to the shareholding or structure of the company have to comply with the regulations of the Companies Act 28 of 2004. The Memorandum and Articles of Association of a company is the document that determines the internal governance of that specific company. The number of authorized shares, the type of shares and the rights and obligations of shareholders are contained in the Memorandum and Articles. A company may only conduct business in a way that is permitted in this governing document. In the event that a company wishes to issue shares for which no provision has been made in the Memorandum and Articles, the Company must first amend this document by passing and registering a Special Resolution in terms of Section 208 of the Act.

The importance of compliance with the above-mentioned procedure and due-diligence in issuing shares has become evident in a very recent case. In Old Mutual Short Term Insurance Company (Namibia) Ltd v Registrar of Companies HC-MD-CIV-MOT-GEN-2021/00480, three applicants forming part of the Old Mutual Group of Companies approached the Court to grant a rule nisi order to retrospectively correct the issue and allotment of shares for which no provision has been made in the Memorandum and Articles. In short, Old Mutual Life Assurance Company (Namibia), an associated company of Old Mutual Short Term Insurance Company (Namibia) Limited, the first Applicant in this matter, passed a special resolution back in 2004 to increase their authorized share capital and make provision for 200 non-cumulative redeemable preference shares. Being associated companies, Old Mutual Short Term Insurance Company (Namibia) Ltd wanted to do the same. In 2016, a proposal to the board was made by the Governance, Risk and Company Secretarial Manager at the time to approve the afore-mentioned mirroring in share structure but unfortunately the amount of shares to be increased was incorrectly stated as 10 and not 200, as per Old Mutual Short Term Insurance Company (Namibia) Ltd true intention. The proposal further failed to indicate the specific type of preference shares that will be increased. The Board approved this proposal without correcting any of the afore-mentioned errors.

With the intention to issue and allot shares to the Third Applicant in this matter, Old Mutual Short Term Insurance Company (Namibia) Ltd was advised by their Company Secretary at the time that the Company already had authorized Variable Rate Redeemable Preference Shares that remained unissued. Eliminating the need for approval by the board, the Company would be able to issue and allot two shares to Old Mutual (Africa) Holdings (Pty) Ltd, the Third Applicant. A Special Resolution was passed and two Variable Rate Redeemable Preference Shares was issued to the third Applicant. It is clear that the intention was to issue “Class A” Non-Cumulative Redeemable Preference Shares and not Variable Rate Redeemable Preference Shares, unfortunately the Board issued the wrong shares based on advice that was incorrectly given by the Company Secretary.  The effect of this mistake has a great impact not only on the reputation of the relevant Old Mutual companies, it also has a great financial impact. Since 2017, when the incorrect shares were issued, Old Mutual Short Term Insurance Company (Namibia) Limited declared dividends to Old Mutual (Arica) Holdings (Pty) Ltd and all annual financial statements since 2017 have been audited and finalized which will result in these dividends having to be collected back from Old Mutual (Africa) Holdings (Pty) Ltd and all financial statements has to be re-audited and reissued.

The question that comes to light from the above case, is how does a company correct an error that occurred when shares has been incorrectly issued, allotted or created declaring the shares invalid? According to Article 103 of the Companies Act an application may be made to Court by the company or any other interested person. This Article reads:

“Validation of irregular creation, allotment or issue of shares

103 (1) If a company has purported to create, allot or issue shares and the creation, allotment or issue of those shares was invalid because of this Act or any other law or of the memorandum or articles of the company or otherwise, or the terms of the creation, allotment or issue were inconsistent with or not authorised by this Act, any law or the memorandum or articles of the company, the Court may on application made by the company or by any interested person and on being satisfied that in all the circumstances it is just and equitable to do so, make an order validating the creation, allotment or issue of those shares or confirming the terms of the creation, allotment or issue thereof, subject to any conditions which the Court may impose.

(2) The Court must, when making an order under subsection (1), direct that a copy of the order be lodged with the Registrar.

(3) On the registration of the copy of the order referred to in subsection (1) by the Registrar and after the payment of all prescribed fees, the shares are deemed to have been validly created, allotted or issued on the terms of the creation, allotment or issue and subject to any conditions imposed by the Court.”

In the event that the court finds it is just and equitable to do so, the court may grant an order to declare the issue and allotment of shares valid. There is however no easy way to correct such error other than making an application to court and even then, the court may still find that declaring the issue or allotment valid would not be just and equitable. It is evident that the importance of compliance in relation to company activities revolving around the creation, allotment of issuance of shares cannot be underestimated. There are very real and costly consequences to non-compliance with company regulations and making sure your company is in capable hands has never been more important.

GENERAL DISCLAIMER

The contents of this document shall not be construed as legal advice. The reader hereof takes note that the contents of the Act are subject to interpretation and such interpretation includes inherent risks as opinions might differ.  Should legal advice on any specific matter pertaining to the act be required, instructions are to be given to provide a legal opinion on the relevant subject matter.

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