In the current disruptive environment driving the South African business sector, significant focus is being placed on companies and whether they have the will or capacity to avoid liquidation.
While there was hope at the end of 2023 that liquidations were decreasing, statistics released by Statistics South Africa show that liquidations in January 2024 increased by more than 40% over those in the same period in 2023. Armed with this information, it is interesting to note that large and medium-sized companies have a greater chance of avoiding liquidation than smaller companies.
It is well-established in our law that a small ‘domestic’ company or a company akin to a partnership (so-called ‘quasi-partnership’) may be liquidated based on the ‘just and equitable’ principle due to a complete breakdown in the special personal relationship that ought to exist between directors and/or shareholders of such a company. What are some of the important issues used to make this decision? These were thoroughly discussed in the case of Richman v FRM Property Investments (Pty) Ltd and Others (2022/972) [2024] ZAGPJHC 270.
Delving into the nature of the Business
The applicant contends that the founding purpose of the Company was based on an “understanding” between the founding shareholders (which he identifies as Messrs Richman, Fiorino and Marangoni), who were “equal shareholders and ‘partners‘” in the Business. The founding shareholders arranged their affairs by consulting with one another in an equal and fair manner, that they understood and agreed that their loan accounts were always equal or equalised (in the sum of R2.1 million), bearing interest at an equal rate of interest and that it was “always understood and agreed” or “a term of the underlying oral or tacit agreement” between the founding shareholders that each shareholder would be represented on the Company’s board of directors.
The Company, which was incorporated on 3 August 1994 with an issued share capital of 120 shares, was acquired from the initial sole shareholder. At the time, Richman, Fiorino and Marangoni had been business partners for many years as directors and shareholders of two furniture manufacturing companies that merged that year. The business of the merged companies operated from the Property and continued to do so after the manufacturing business was sold in 1994. The Property was not sold but was transferred to the Company. Company minutes of the inaugural shareholders’ meeting reveal that Messrs Richman (SNR), Fiorino and Marangoni were appointed directors and that they were the shareholders and the applicant.
There is uncertainty about whether the applicant attended the inaugural meeting because he does not recall the meeting, which took place after he had already emigrated to the USA, and Richman SNR signed the meeting minutes on his behalf. The Judge pointed out that, in his view, that would not detract from, but rather underscore, the inference that Messrs Fiorino, Marangoni and Richman SNR intended to allocate a third of the shares to each of their respective families. Whilst Messrs Fiorino and Marangoni chose to have their shares (40 shares each) held by the respective Trusts, Richman SNR and the applicant elected to hold their shares (20 shares each) in their personal capacities. The Company was capitalised by shareholders’ loans of R2 million from each Trust and R2 million jointly from Richman SNR and the applicant. Even after Richman SNR had emigrated to the United States of America (in 1996/1997), Messrs Fiorino and Marangoni ensured that Richman SNR received interest payment on his shareholder’s loan (the account held jointly with the applicant). Despite Richman SNR’s death in 2001 and his children’s lack of involvement with the Company, monthly interest payments continued to be made into designated bank accounts.
The directors recently ‘corrected’ the shareholding by issuing further shares to ensure that the applicant and his sister own 40 shares and the Trusts 80 shares each, dividing the issued share capital equally between the three families. This correction was a significant development in the case, as it aimed to address the imbalance in shareholding that was a point of contention between the parties.
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A breakdown in the relationship
Before outlining the breakdown in the relationship between the applicant and the respondents, it is essential to point out that the Court may grant a winding-up order under the following circumstances:
- If there is a justifiable lack of confidence in the conduct and management of the Company’s affairs founded on the directors’ conduct regarding the Company’s business; and
- In instances (sometimes called the deadlock principle, but which does not require actual deadlock) that are strictly confined to those small domestic companies in which, because of some express, tacit or implied arrangement, there exists between the shareholders a particularly significant personal relationship of confidence and trust regarding the Company’s affairs similar to that existing between partners, and if by conduct which is either wrongful or not as contemplated by the arrangement, one or more of the shareholders destroy that relationship.
The breakdown in the relationship between the applicant and the respondents can be traced back to several incidents. The applicant and his sister emigrated to the USA in 1986, long before the Company was incorporated and the Property acquired. It is common cause that the applicant and his sister have never been involved in the operation of the business. Save for a single enquiry in mid-2016 regarding interest on the loan accounts; the applicant does not appear to have had any interest in the Company until March 2017, when he attended at the Property and had an altercation with Mr Fiorino (a matter to which I shall return). The founding affidavit attests to the fact that the applicant was unaware that he had also been a shareholder since the Company was acquired because he was under the impression that he and his sister had inherited their father’s shares. Although the applicant’s complaints regarding the management of the Company hark back to 2013, it was only in the latter half of 2018 that he requested the Company’s memorandum of incorporation, certain financial statements and the Trust’s letters of authority and sought to be appointed to the board of directors.
Richman SNR emigrated to the USA in 1996/1997, soon after the Company was incorporated and the Property acquired. According to the respondents, the relationship between Richman SNR and his fellow shareholders soured by that time. The respondents’ version that Richman SNR did not involve himself in the Company’s affairs was met with a bare denial that does not bear scrutiny. Although Richman SNR passed away in 2001, the applicant only sought to inform the Company of his passing in 2005. The news was conveyed by letter to the fourth respondent, who had been posted to an address vacated several years earlier. The letter requested a meeting, and Richman SNR’s shares should be transferred to the applicant. The applicant does not provide an explanation for this extraordinary delay in notifying the Company of his father’s passing. The situation is compounded by the fact that news of Richman SNR’s death only reached the respondents in 2009, and during the intervening years, the applicant did not attempt to find out whether the shares had been transferred as he requested in 2005, nor did he enquire why the meeting that he had asked, had not been arranged.
In response to the relationship between the applicants and the respondents, the Court pointed out that the only reasonable inference that can be drawn from these facts is that the applicant was unaware of his father’s involvement (if any) with the Company or of the applicant’s general lack of interest in the Company, or both. Significantly, though, the fact that the respondents did not know Richman SNR’s death from 2001 to 2009 corroborates the respondents’ version that Richman SNR’s whereabouts were not known to the Company, and he was not missed because he did not involve himself in the Business after he emigrated to the USA.
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The applicant’s objections regarding the control and management of the Company are directed principally at the conduct of Mr Fiorino and are mainly based on email correspondence between the applicant and the respondents’ respective attorneys. It was detailed in an email that the applicant had an altercation with Mr Fiorino on 17 March 2017. The electronic mail refers to two meetings some three weeks earlier. The first was a meeting with the fourth respondent, where the applicant had discussed his proposal that insisted on changes to the management of the Company. These included the shareholders concluding a shareholders’ agreement; equalising the loan accounts and interest at 12% to accrue on the balances; appointing a professional management company to manage the Property; appointing a new board which would exclude Mr Fiorino; and Mr Fiorino relinquishing all control of the Company, including being a signatory on the bank account. These terms were conveyed as not negotiable, brooked no discussion and, if not accepted, would result in the applicant filing a suit against the directors. The second was a meeting later the same day between the applicant and Mr Fiorino that lasted only a few minutes before Mr Fiorino “flew into a rage” at the applicant’s proposal, causing the applicant to depart in fear of his personal safety.
In responding to this, the Court pointed out that, bearing in mind the applicant’s disinterest in the affairs of the Company at the time and the absence of any information of preceding events that may have triggered such a drastic proposal, the tone of the electronic mail strikes the Court as rather arrogant. This does not excuse Mr Fiorino’s conduct but provides some context for his anger. Understandably, the parties, after that, turned to their attorneys to take care of further communications.
The Courts decision
The Court rejected the application to wind up the Company because it did not meet the abovementioned criteria.
Another important reason the Court made this decision is
that the Company is solvent and profitable. It has no significant creditors (save for the shareholders’ loan accounts) and can pay its debts. The Business continues to provide for the shareholders. There is no suggestion that the Company is unable to function or is in malaise and unable to carry on at a profit.
Conclusion
What is overwhelmingly apparent from the Richman v FRM Property Investments case is that the relationship between a company’s shareholders and board members exists on a delicate knife edge, and one incident can sour a relationship.
While the Court decided not to grant a winding-up order, irreparable damage was done to the relationship between the directors of the Company, which could become a future root cause of financial distress. This is an issue that BRPs and lawyers who are active in the profession need to be aware of.
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