THE NEED TO PROTECT EMPLOYEE RIGHTS IN INSOLVENCY PROCEEDING

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CHAPTER 2 SOUTH AFRICA

INTRODUCTION

Until fairly recently employee rights in the realm of company law were not high on the priority list as a topic of debate.1 Employees and their interests in insolvency law are referred to as the “lost souls” of insolvency law in some ways.2 Finch explains this by referring to the important role that employees have to play in a company’s success, yet in insolvency matters the law does little to protect them.3 Smit remarked in 2001 that “company law remains largely unconcerned with employees”4 and added that the South African Companies Act5 was “silent on the position of employees”6. Smit’s concerns came under the spotlight in the review process that preceded the current Companies Act 71 of 2008.
Before its reform, South Africa’s company law was regarded as outdated when compared to the corporate law regimes of international jurisdictions, and taking into account the enormous change in the country’s legal, political, social and economic environment since 1994, a complete overhaul was due.7 The aim of the policy paper published by the Department of Trade and Industry in May 2004,8 was to provide a framework for a new Companies Act for South Africa with guidelines for a process of technical consultations.9
South Africa’s insolvency law has been awaiting reform even longer. With an Insolvency Act dating back to 1936, and despite many amendments, the Insolvency Act10 has not kept up with modern day developments. It was due to trade union initiatives that reform on the insolvency front became the topic of debate.11 The subsequent reform that took place in insolvency law by introducing the 2002 amendments was driven by the labour force. Although the full implication of all these amendments is discussed later in this chapter,12 it is worth mentioning here that the preamble to the Insolvency Amendment Act of 200213 explains the purpose of the amendments as follows: “To amend the Insolvency Act, 1936, so as to further regulate the effect of sequestration on employment contracts and claims for severance and retrenchment pay.”
Although the Insolvency Second Amendment Act of 200214 further amended some sections and introduced new sections into the Insolvency Act, it also contained three amendments to the Companies Act of 1973.15 The main purpose of the amendments was to compel the company to give notice to employees and trade unions of an application for the winding-up of the company and to provide service of winding-up orders on employees and trade unions.
Although the reform of South Africa’s insolvency legislation became a topic of debate and discussion during the late 1980s, not much has changed. The University of Pretoria’s Centre for Advanced Corporate and Insolvency Law produced a Draft Insolvency Bill that was published by the South African Law Reform Commission in 1996 and on 5 March 2003 Cabinet approved the introduction of the Draft Insolvency and Business Recovery Bill.16 Unfortunately, despite an optimistic publication date of sometime during 2004, this “unified insolvency act”, has not materialised.
One of the key roles government had to play in the corporate law reform process was to promote employment opportunities.17 The policy paper laid down several ideals. The development of South Africa’s economy was a priority and according to the policy paper, company law should accomplish that by

  • encouraging transparency and recognising the broader social role of enterprises.18
  • The emphasis placed on the findings in the policy paper is paramount if cognisance is taken of the fact that the abovementioned objectives of company law were partly incorporated in section 7 of the promulgated Companies Act that sets out the purposes of the Act.19

This policy paper also recognised the need to review the relationship between company law and the rules for the protection of employee interests.20 By then, three years had passed since Smit’s comment that company law ignores the role of the employee. It was about time to consider the interests of the employees since “[their] association with the company is the closest, and [their] survival and dependency are largely determined by the management and the prosperity of the company where they spend the majority of their productive time”.21
Employees are not only extremely vulnerable in liquidations because their main source of income, namely, their salary and wages might probably be at risk, but their vulnerability is exacerbated by the fact that they are not in a position to spread their risk between different enterprises in the way creditors and shareholders are able to do.
Carolus sums up this predicament of employees by stating:
“It is not an exaggeration to say that the financial security of employees is sometimes so closely related to the stability of a company that the insolvency of the latter means financial disaster for its labour force.”22
The policy paper acknowledged that a company’s existence and chances of success are inevitably linked to the interests of its employees and that they must be accounted for as stakeholders of the company.23 Employees are not to be treated as commodities.24 It is trite that no employee is irreplaceable but if a company is struggling financially it is important for the company to be able to rely on the loyalty of its employees.
Chapter 4 of the policy paper identified the primary focus areas for reform. It stated that the interests of the employees form part of many concerns that need to be taken care of in the case of a company’s winding-up.25 The neglect of employee rights and the non-participation of employees in a company’s liquidation have been referred to as “employee impotence”, stressing the vulnerability that employees face.2
The policy paper concluded with chapter 5 that examined the way forward. One of the actions needed was that the policy paper had to be debated at the National Economic Development and Labour Council.27 This indicated the important role that labour was to play in the reform of South Africa’s company law.
In the King Code of Corporate Governance28 more reference was made to the role that employees were to play in a company. It emphasised that the success of 21st century companies lay in the harmonious role of “planet, people and profit”29 that had to be balanced. The need for a successful business rescue regime was also examined in King III and it was again emphasised that the ability to rescue a company that experienced financial difficulty would serve the interests of shareholders, creditors, employees and other stakeholders.3
While acknowledging the fact that South Africa tries to keep up with international developments in insolvency, company law and labour law, it is important to recognise the influence that an international body such as the United Nations Commission on International Trade Law31 has on our country’s insolvency law and law reform in general.32 In its 2004 Legislative Guide on Insolvency Law reference is made to the balance that needs to be struck when considering all possible branches of the law.33 The point of departure as regards insolvency law is as follows:
“Generally, the mechanism must strike a balance not only between the different interests of these stakeholders,34 but also between these interests and the relevant social, political and other policy considerations that have an impact on the economic and legal goals of insolvency proceedings.”35
According to the UNCITRAL guide, the “first objective of maximisation of value is closely linked to the balance to be achieved in insolvency law”.36 The balance referred to is that between liquidation and reorganisation. The gist of this balance is that “insolvency law needs to balance the advantages of near-term debt collection through liquidation. . . against preserving the value of the debtor’s business through reorganization”.37
If such a balance can be struck employment will be protected.38 The possibility that insolvency law should include reorganisation as an alternative to liquidation makes sense as the basic components of the business will be kept together. This makes reorganisation more valuable because of the advantage that creditors might receive more than in the case of liquidation while employees do not lose their jobs.3

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EMPLOYEE RIGHTS IN LIQUIDATION

Chapter 14 of the 1973 Companies Act is applicable to the winding-up or liquidation of an insolvent company because the Companies Act of 2008 did not repeal the provisions applicable to the winding-up or liquidation of insolvent companies.40
Section 339 of the Companies Act 1973 furthermore provides that the Insolvency Act will apply mutatis mutandis to a matter not specifically dealt with in Chapter 14 of the Companies Act 1973 where a company unable to pay its debts is liquidated, in so far as it is applicable.
Employee rights in liquidation are thus mainly regulated by the Companies Act 1973,41 the Insolvency Act 1936 and the Labour Relations Act 1995.

Employee’s right to commence liquidation

Section 346 of the Companies Act provides that an application for the winding-up or liquidation42 of an insolvent company can be made to court by the company, one or more creditors of the company or a shareholder.43 The section includes prospective or contingent creditors in the reference to creditors44 and the restriction of shareholders contained in section 346(2) means that the member’s name must have been contained in the securities register for at least six months before the application for winding-up or liquidation of the company may be brought.
The fact that no direct reference is made in section 346 to any right that an employee might have to commence liquidation proceedings of the company comes as no surprise: the continued existence of the company is of paramount importance to any employee and no employee would prefer to place their own employer in the process that eventually will lead to its termination and dissolution.
The question arises whether an employee who is owed money by the company will qualify as a creditor of the company and in this capacity have the right to initiate winding-up or liquidation proceedings against the company. There is no easy answer to this question.45
It is a trite principle of the law of contract that whenever a party performs his part of the contractual obligations a personal right vests. This means that the employee acquires a right against the employer to claim payment for the work that he has done. According to the definition of an employment contract the employee renders his services and in return receives remuneration for such performance.46 This means that the moment the company owes money to an employee, the employee has a personal right against the company for the payment of such money. The employee therefore qualifies as a creditor of the company.47 Evans refers to these employees as “employee creditors”.48
It is submitted that employees therefore will have the right to initiate the liquidation of the company where remuneration or other employment-related monies are owed to them. This right accrues to employees in their capacity as creditors of the company and not as employees. This position of employees in South Africa corresponds with the right of employees in Australia49 and England.5

Employee’s right to be notified and informed of liquidation

When an applicant applies for the winding-up of a company he must, at the time his application is presented to the court in terms of section 346, furnish a copy of such application to every registered trade union that represents any employee of the company51 and to the employees themselves.52 Prior to 2002, trade unions advocated for timeous notification in the situation where an employer was to be liquidated.53
As from 1 August 2002 section 197B of the Labour Relations Act54 provides for the disclosure of information concerning insolvency to the employees. Section 197B(1) provides that when a company is having financial problems that might “reasonably” result in the company’s liquidation, consulting parties as set out in section 189(1) of the Labour Relations Act need to be advised. These parties include any person whom the employer is required to consult with in terms of a collective agreement,55 or where no collective agreement is in place, a workplace forum56 or registered trade union.57 Where there are no workplace forums or trade unions representing employees, the company has to consult with employees likely to be affected by the insolvency.58 Section 197B(2) compels a company that applies for liquidation or when an application for its liquidation is made to provide the employees with a copy of the application59 within two days at the time of making the application or 12 hours in urgent matters.60 Section 189 further provides that the employer must engage in negotiations regarding the details of the possible dismissals.61 The employer must also issue a written notice to the employees and disclose all relevant information regarding the reasons for the proposed dismissals, the number of employees that might be affected thereby, how he will choose who will be dismissed and who will remain employed, when the dismissals will take place, severance pay to be paid, and the possibility of future employment assistance that the employee could expect from the employer during the period of dismissal.62
The Insolvency Second Amendment Act63 provided for improved notification provisions specifically to favour the position of employees in liquidation.64 Section 346 of the Companies Act was amended to provide that a copy of the liquidation order must be delivered to all creditors, including every registered trade union and the employees themselves.65
Three sections of the 1973 Companies Act were amended or substituted by the Insolvency Second Amendment Act 69 of 2002. These amendments and substitutions all contributed to a more favourable position where notice to employees in the liquidation process is concerned. Firstly section 346 of the 1973 Companies Act was amended by the insertion of subsection (4A) after subsection 4 where the application for winding-up is concerned. Section 346(4A)(a provides that the applicant must give a copy of the application to every registered trade union that represents any of the company’s employees. A copy must also be furnished to the employees themselves.66 This notice to employees must be done by fixing a copy of the application to any notice board to which the employees have access inside the premises of the company67 or to the front gate of the premises if the employees do not have access to the inside of the property.68
Secondly, section 346A was inserted after section 346 and concerns the service of the winding-up order. Section 346A provides that a copy of a winding-up order must be served on every trade union and on the employees of the company69 by fixing a copy of the application to a notice board inside the premises.70
Lastly, section 347 was amended by the insertion of subsection (1A) after subsection (1). However, this insertion does not affect employees explicitly as it deals with a malicious application order and damage that can be claimed by the company of it can be proved.
The copy of the application that must be furnished to the trade unions and employees must be attached to a notice board inside the premises of the company if the employees have access to the workplace,71 otherwise the copy of the application must be attached to the front gate of the workplace from which the company normally conducts business.72
Section 346A of the 1973 Companies Act deals with the serving of a winding-up order and like section 346 discussed above, the order must be served on every registered trade union73 and on individual employees.74 The manner in which the order must be served corresponds with the way in which the application has to be served in terms of section 346(4A).75
In EB Steam Company (Pty) Ltd v Eskom Holdings SOC Ltd,76 Wallis AJ held that the furnishing of information to employees and trade unions of the company in terms of section 346 (4A) is peremptory. This requirement serves to protect the interests of employees and should be regarded as having priority in liquidation matters.77 It was stated that “peremptory” means that it is not permissible for the court to grant a final winding-up order if these requirements were not complied with.78 It therefore was regarded as inappropriate to grant the final liquidation order. The court ruled that the order was only provisional and that the employees had to be furnished with a copy of the applicant’s papers.79 Although the role that employees play in liquidation is restricted due their employment contracts being suspended on the granting of the winding-up order, it is pleasing to see that their interests are looked after. The decision in EB Steam Company showed that amendments to legislation happen for a reason and that the judiciary is prepared to order time to pass in a case to ensure compliance with the letter of the law. Employees therefore have the right to oppose liquidation applications.
In Australia, employees do not have specific rights to receive information in their capacity as employees of the company.80 In England,81 employees only enjoy the right to receive information regarding liquidation in their capacities as creditors of the company, as is the case in Australia.
It is my belief that employees in South Africa are treated fairly in this regard. Considering that their employment position will change dramatically82 once winding-up proceedings commence and that they do not have a right to support or reject such commencement, the very minimum right that they should have, is the right to know what is happening.8

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Effect of liquidation on employment contract of employees

Every employee has a basic right to fair labour practices which is enshrined in the South African Constitution.84 One of the fundamental labour right is the right not to be unfairly dismissed. This implies that if an employer wants to terminate the employment relationship with an employee, that termination is subject to a set of rules regulated by the Labour Relations Act.85 Not only is a valid reason (substantive fairness) necessary before an employer may dismiss an employee, the employer will also have to follow a correct and fair procedure (procedural fairness). Where the dismissal is based on operational requirements and it appears to be unfair due to a lack of evidence of a substantive reason, or in the event where the correct procedure was not followed by the company, the latter will be liable for compensation.86
Section 213 of the Labour Relations Act acknowledges that financial difficulty might justify the dismissal of employees based on operational requirements. This justifies the situation where an employer dismisses an employee due to “economic, structural or similar needs” which would include a situation where a company is in financial distress and needs to downsize the workforce. However, the Labour Relations Act does not contain any provision regarding the termination of employment contracts in cases of insolvency.87
Until 2003, the common-law principle applicable to uncompleted contracts governed the situation where a company was liquidated.88 The rule was that employment contracts were terminated automatically.89
The Insolvency Amendment Act90 came into effect on 1 January 2003 and changed the landscape for employees with regard to the effect of liquidation on their employment contracts. Section 38 of the Insolvency Act of 1936 was replaced with a new section 38

DECLARATION 
SUMMARY 
ACKNOWLEDGEMENTS 
CHAPTER 1 INTRODUCTION 
1 THE NEED TO PROTECT EMPLOYEE RIGHTS IN INSOLVENCY PROCEEDINGS
2 EMPLOYEES AS STAKEHOLDERS IN THE COMPANY
3 ROLE OF THE CONSTITUTION
4 ROLE OF LABOUR LAW IN INSOLVENCY AND RESCUE
5 ROLE OF COMPANY LAW AND THE INFLUENCE OF THE KING REPORTS ON MODERN COMPANY LAW IN SOUTH AFRICA
6 POSITION OF EMPLOYEES IN INSOLVENCY LAW
7 IS A THREE-WAY HARMONISATION POSSIBLE?
8 INTERNATIONAL TRENDS
9 METHODOLOGY
10 RESEARCH QUESTIONS
11 ABBREVIATIONS AND REFERENCES
CHAPTER 2 SOUTH AFRICA .
1 INTRODUCTION
2. EMPLOYEE RIGHTS IN LIQUIDATION
3. EMPLOYEE RIGHTS IN BUSINESS RESCUE
4 CONCLUSION
CHAPTER 3 AUSTRALIA
1 INTRODUCTION
2 EMPLOYEE RIGHTS IN LIQUIDATION .
3 EMPLOYEE RIGHTS IN VOLUNTARY ADMINISTRATION
4 CONCLUSION
CHAPTER 4 ENGLAND
1 INTRODUCTION
2 EMPLOYEE RIGHTS IN LIQUIDATION
3 EMPLOYEE RIGHTS IN ADMINISTRATION
4 CONCLUSION
CHAPTER 5 CONCLUSION
1 INTRODUCTION
2 COMPARATIVE CONCLUSION ON EMPLOYEE RIGHTS IN LIQUIDATION AND BUSINESS RESCUE
3 RECOMMENDATIONS
4 FINAL REMARKS
BIBLIOGRAPHY .
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