Companies Amendment Bill: public hearings

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Trade and Industry

18 January 2011
Chairperson: Ms J Fubbs (ANC)
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Meeting Summary

Submissions from two accounting firm that catered to small and medium enterprises, emphasised the problem of accountability of small companies without credible financial records and also looked at the practical effects of the regulations. It noted that SMEs comprised by far the majority of companies which the regulations would affect. The purpose of the new Act was to make business easier for SMEs by removing barriers to entry, yet some of the regulations had the opposite effect. This would lead to increased costs for companies. There was uncertainty about which companies needed review and which ones needed auditing and about interim arrangements. This led to a consequent inability to plan for staffing needs by accounting firms. They pointed out that the new Act did not afford protection to the public or to stakeholders. Through the incorporation of a company, owners held limited liability which should be accompanied by accountability and the keeping of accurate and credible financial records of which the latter should be enforced by some monitoring mechanism. The submissions recommended that the definitions of what constituted financial statements and annual financial statements as well as trading under insolvent conditions should be clearly defined, that the reporting of all irregularities should be written into the regulations to strengthen the Act and that the points score range from 80 to 350 points.

Members asked the accounting firms what it wanted the Committee to do and whether the submission’s recommendations would result in a longer lifespan for SMEs or create impediments to labour. Would the drawing up of financial documents result in an increase in costs for SMEs? Were accounting firms in agreement with the banking sector that two years was a satisfactory period for implementation to occur and what the interim arrangements should be? Should some of the regulations be part of the legislation? Members wanted clarification on the points scoring system.

The Mail and Guardian submission dealt with modifying the wording of Clause 17 which allowed the public access to securities and directors registers, as in its current form, it could be construed that the Promtion of Access to Information Act had to be used to access this information. This was a much longer route to follow and brought obstacles to the fore where grounds for refusal had to be overcome and costs and procedural issues had to be considered.

Members asked what the cost of such compliance would be, and what would happen should a company not comply with a request for information.


Meeting report

Wolfsohn and Associates submission
Mr Colin Wolfsohn focused on the fundamentals and the practical effects of the regulations. He indicated that a SME was one that had up to 130 employees, whose turnover was up to R150 million and had liabilities up to R30 million and assets of up to R60 million. South Africa currently had 450 000 companies of which 40,000 were public companies and two million close corporations, 76% of which had a turnover of less than R1 million.

He said one could not separate the Companies Amendment Bill from the regulations and their concern was with the regulations. The purpose of the new Act was to make business simpler by removing barriers to entry for the SME sector which was the sector where jobs were created but that the new regulations presented challenges to this purpose. Why had all company forms been renumbered? This would require companies to file a new memorandum of incorporation for all companies and was not practical and of no value. The time required to evaluate whether a company required an audit or an independent review was crucial. The accounting industry was six weeks away from a financial year-end and did not know which companies needed review and which ones needed auditing. There was uncertainty over the interim arrangements. SMEs trained 50% of chartered accountants in South Africa and accounting firms needed clarity so they could plan their audits and staffing requirements.

Turning to the matter of public interest, he said the Consumer Protection Act aimed to protect consumers but the new Companies Act and its regulations did not afford protection to the public. Creditors were not afforded any protection under the new Act as they were not regarded as stakeholders in the company. Under the new Act the officially appointed auditor was excluded from performing the functions of preparing the financial statements of the company.

There was a worldwide trend to simplify and make easy the accounting requirements for SMEs. The demands for accountability in the new Act created barriers to entry to the accounting profession and to business.

The incorporation of a company created limited liability for the owners/shareholders but demanded accountability which included maintaining proper accounting records and preparing financial statements that were accurate and could be used to make informed decisions. Solvency and liquidity tests should be done on a per company basis and not on a group basis. Business rescue could only work if there was credible financial information available.

Small business should be defined as having 50 shareholders maximum, 150 employees, a turnover greater than R120 million, liabilities in excess of R30 million and assets of over R60 million. The top threshold should therefore be amended to 350 points and the lower threshold to 80 points equal to 5 shareholders, 15 employees, a turnover greater than R20 million with liabilities in excess of R5 million. Many of the companies would not even reach the 750 points proposed in the regulations.

Mr Wolfsohn made the following additional comments:
▪ The definition of what constituted financial statements and annual financial statements should be precisely defined to avoid uncertainty and promote consistency. Section 1 also referred to the law of trusts. As trusts were included in the definition of a juristic person, the law of trusts might unintentionally be affected. It should therefore be clearly stated that the definition of a juristic person in the Bill was applicable to this Act only.

▪ Section 2 referred to the definition of related persons and should be limited to immediate family only.

▪ Section 4 on solvency and liquidity tests was a critical part of this legislation and it was essential that it be clear and robust. It currently had sections that were likely to confuse stakeholders. In 4
(1)(a), a company whose liabilities equalled its assets should not be regarded as solvent and this test should be applied to each company individually and not to the group as a whole, so as to give protection to creditors and employees. In 4(2)(a) it stated that financial records should be used as the basis for the solvency test. This should be deleted as the financial records might not bear any relationship to the fair market value of a company.

▪ Section 22 dealing with reckless trading was more wide ranging than the previous legislation. The phrasing was unclear as to whether all five conditions needed to apply simultaneously or whether they were five separate tests. Trading under insolvent conditions was prohibited in the new Act but was not clearly defined, in particular, the matter of loan accounts and the case where companies could not pay its debts.

▪ Section 24(3) dealt with document retention which, at seven years, was too short as the rights and responsibilities to shareholders were longer. It should be indefinite or until a company was deregistered.

▪ Section 31 provided for owner managed businesses not to provide financial statements. This should be deleted on the basis that limited liability was provided for through the incorporation of a company on condition that financial statements were prepared. In its absence, creditors and employees would have no proof of reckless trading

Meredith Harington submission
Mr Peter Meredith, Director, emphasised accountability. The concept of limited liability had to be linked with a concomitant accountability, failing which anybody could operate and hide behind a curtain of limited liability. There should be a structure that was robust and which monitored and enforced accountability. The solvency and liquidity provisions of the new Act provided a good foundation as to whether directors were trading in a responsible manner but these regulations were only effective if it was monitored. If there were no accurate credible financial records, then there was no basis for assessing solvency, liquidity, business rescue or whether a company was trading recklessly.

If a company did not comply with certain regulations, the auditors were required to report any irregularities they might find under the 1973 Act. With the new Act, if a company was not under audit that requirement fell away. So for 90% of companies there would be no reporting requirement, this was a gap that needed to be filled. The reporting of all irregularities should be written into the regulations to strengthen the Act.

Discussion
Mr X Mabasa (ANC) asked what the presenters wanted the Committee to do.

Ms C September (ANC) said that the South African economy was characterised by a small group of large companies and a large group of small companies which did not have a long life span. Would the representations cause small companies to have a longer life span, would it cause any impediments to labour relations?

Mr B Radebe (ANC) said the objective of the Act was to make things easier for SMEs. Would the financial documents called for not result in an increase in costs for companies?

Mr T Harris (DA) was concerned with the interim arrangements and the implementation dates of the Act. The banking sector had said that two additional years would be sufficient; would accounting firms’ clients be compliant within that time? If not, how much extra time was needed? He asked for clarity as to where in the Act smaller audit firms would be discriminated against by being constrained in gaining entry to the profession. Should some items in the regulations be part of the legislation, as there was an implication that the legislation did not provide for enough enforcement.

Mr Wolfsohn replied that the sustainability of business was crucial and needed professional help and credible financial information but that not all companies had the capacity to have professional accountants. These credible accounting records need not necessarily be audited records.

With regard to accountability in terms of labour legislation, currently, most of the smaller companies did not even need to keep financial records so how could they provide credible information to its employees.

With regard to the retention of documents, for example the memorandum of incorporation incurred no cost. However the changing to new documents had a cost implication (it needed to be prepared for each company) and most accounting firms would not be qualified to do it as it would have to be done by a legal firm.

It was currently six weeks prior to the financial year end. Auditing companies were planning and starting audits. They had been told that the implementation date for the Act was 1 April 2011. Companies were not sure whether it needed an audit if its year end was February.  The concern of small accounting firms was not the amount of work but the costs involved. Firms needed to know and have sight of these documents so that they could prepare for it. Under the 1973 Act accountants acted as accountants and auditors.

He affirmed that some regulations be contained in the legislation. For example the definition of what constituted annual financial statements and the content of financial statements.

He was concerned that currently criminals could become directors of companies. They should not be put in a position of trust as he was concerned about its effect on creditors and employees. He said the Committee should listen to what had been submitted and that the Department had gone a long way in formulating the Act, the regulations just need a bit of refinement.

South African Institute of Chartered Accountants (SAICA) submission
Mr Ewald Muller, Senior Executive of Standards: SAICA, said the Act moved away from the principles of the 1973 Act and a raft of regulations and concepts that were not part of the 1973 regulations gave effect to the objectives of the Act. The primary issue for him was the critical distinction between private and public interest. He endorsed the need to encourage SMEs. He endorsed the fact that private companies be given the opportunity to create sustainable business and employment.

He said Section 22.2 was an impediment to doing business. The regulations had to be relooked at to see how it affected doing business in South Africa and whether those objectives were being achieved.

Discussion
Mr J Smalle (DA) wanted clarification on the points scoring of companies. What effect would it have on SMEs?

Mr Meredith replied that there were many definitions of what a small company was. The danger was that if your scoring was too high, then one excluded most of the companies for which the regulations were put in place.  One would get the anomaly of a JSE Alt-X listed company which would not fall within the requirement for audit because of its points total yet as it was part of the JSE it had to submit audited reports. It was in the public interest that large companies should be under audit. Revisiting the audit question was an onerous, complex and costly task. Personally, he felt six months was an adequate time to hammer out practical issues regarding the regulations and establish clearly defined interim processes which would give enough time for firms to plan and restructure audits.

The Chairperson asked for clarification on being technically insolvent whilst being commercially solvent. He queried whether people with a criminal record being placed in a position of trust as directors was an absolute. She wanted to know what about challenges facing the business rescue legislation.

Mr Wolfsohn replied that the position of trust was not an absolute, that there could be a time stipulation of, for example, no convictions within the last ten years.

With regard to the business rescue legislation, Mr Meredith said that the insolvency law had not worked well. By the time a liquidator had been appointed, there was no funding, there were no collectable accounts receivables and the net proceeds to creditors ended up being far lower. The business rescue legislation would provide an opportunity to look at a business at an earlier stage to determine if there were problems or not. Business rescue would need good accounting records.

Mail and Guardian Centre for Investigative Journalism submission
Dr Dario Milo, of the firm Webber Wentzel and acting on behalf of the Mail and Guardian, said their submission dealt with Clause 17 of the 2010 Companies Amendment Bill where the right of public access to who owned and controlled companies, namely the shareholders register and the directors register, was recognised. He said Section 17 did a good job of fixing the terminology problems of Section 26 and streamlined the mechanism by which one accessed information. One possible consequence of Section 17 as it stood could be the undermining of access to information, as applicants would be forced to go via the longer Promotion of Access to Information Act (PAIA) route to get information. This could be resolved if the conjunctive word “and” in the clause was substituted with the disjunctive, “or”.

Regulation 24 compounded the problem as one had to rely exclusively on PAIA to get the information. PAIA was plagued with difficulty and placed hurdles in the path, where grounds for refusal had to be overcome and there were procedural and cost issues to be considered. Company information needed to be timeous for it to have any value. Section 22 in any case allowed for members of the public to inspect and copy information at the registered offices.

Discussion
Mr T Harris (DA) asked what the compliance costs to the company would be.

Mr Milo replied that
Section 16 made transparency an obligation, even on close corporations, the smallest type of business entity. The fee for providing the information was a matter for the accountants to decide.

Ms C Kotsi (COPE) wanted a response from the Department on the submission.

The Department said it would be presenting its draft response to the submissions on the Companies Amendment Bill on Tuesday 25 January 2011

Mr J Smalle asked what would happen if a company did not respond within seven days.

Mr Milo said the current position was that a company was allowed 14 days, after that a remedy was to go to court but there were cost implications. He proposed that there be a direct linkage between the right to access and a tribunal, should compliance not occur.

He said there were three possible consequences. Criminal charges could be instituted, a court injunction could be sought as in the La Lucia Sands case or a complaint could be lodged with the Commission. He said he had submitted a direct enforcement proposal two years previously.

The Chairperson wanted clarity when the PAIA process would come into effect and asked what would compel companies to give information?

Mr Milo said that PAIA would be applicable irrespective whether it was part of the Act or not. Section 26 need not include any reference to PAIA. He added that PAIA would be an acceptable route to follow if it had been a less complex procedure and was completed in a shorter time and if it was linked to enforcement methods.

The Chairperson said the Committee would meet the following Friday 28 January to begin deliberations on the Bill and was seeking to complete it by 1 March 2011.

Mr B Radebe asked that the Committee’s oversight report be followed up so that oversight visits did not become mere touring visits.

The meeting was adjourned.


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