Under the Companies Act, No. 61 of 1973 (the "Existing Act"), the redemption of preference shares (governed by section 98 of the Existing Act) is dealt with separately to the buy-back of shares generally (governed by section 85 of the Existing Act). Despite preference share redemptions being a category of share buy-backs, preference share redemptions, under the Existing Act, are subject to a different set of criteria to that governing the general category of share buy-backs. For example, under section 85 of the Existing Act, share buy-backs are subject to the application of the solvency and liquidity test as well as to shareholder approval. In contrast, under section 98 of the Existing Act, redemptions of preference shares require neither the application of the solvency and liquidity test, nor shareholder approval.
Under the 2008 Companies Act (the "New Act"), which is expected to come into force from 1 April 2011, all share buy-backs (or so-called "share acquisitions"), including the redemption of preference shares, are to be dealt with uniformly. This means that, under the New Act and in direct contrast to the Existing Act, preference share redemptions will have to comply with the general requirements for share acquisitions. These general requirements are set out in sections 48 (Share Acquisitions) and 46 (Distributions) of the New Act. Under the New Act, the definition of a "Distribution" expressly includes a buy-back of shares.
Consequently, the redemption of preference shares under the New Act will be significantly more regulated than is the case under the Existing Act. In order for preference shares to be redeemed under the New Act, the following new requirements will need to be met:
- there must be an existing legal obligation to redeem preference shares or the board of directors of the issuer needs to authorise such redemption;
- it must reasonably appear that the issuer will satisfy the solvency and liquidity test (as defined and contemplated in section 4 of the New Act) immediately after the redemption is made;
- the board of directors of the issuer has, by way of resolution, acknowledged that it has applied the solvency and liquidity test and reasonably concluded that the issuer would meet this test immediately after completing the redemption; and
- the redemption must be completed 120 business days after the board of directors of the issuer has acknowledged by resolution that it applied the solvency and liquidity test.
The recently published Companies Amendment Bill B40 of 2010 seeks to introduce a seemingly incongruous provision into section 48 of the New Act, namely sub-section 48(8)(b). This sub-section states that a share acquisition "is subject to the requirements of sections 114 and 115 if….it involves the acquisition by the company of more than 5% of the issued shares of any particular class of the company’s shares". On a literal interpretation of this provision, every share acquisition of more than 5% of the issued shares of any particular class would be subject to the additional provisions of sections 114 (Schemes of Arrangement) and 115 (Required Approval for Fundamental Transactions) of the New Act. On the face of it, this would entail, for example, the compilation of a report by an independent expert each time an issuer wished to redeem preference shares, which report would need to cover, inter alia, the material effects that the proposed acquisition would have on the rights and interests of every holder of securities affected by the proposed acquisition as well as any material interest of any director and the effect of the proposed acquisition on such director. These requirements (as found in section 114(3) of the New Act) go far beyond the financial information which would need to be considered by the issuer in the application of the solvency and liquidity test. Moreover, such literal interpretation would mean that, if an issuer qualifies as a company described in section 115(1)(b) of the New Act, the Takeover Regulation Panel would need to issue a compliance certificate each time such issuer wished to redeem preference shares. Furthermore, and possibly one of the most onerous consequences of applying section 115 to all share acquisitions, is that appraisal rights of a dissenting shareholder (set out in section 115(8) read with section 164 of the New Act) would be applicable to such acquisitions.
The Companies Amendment Bill B40 of 2010 also seeks to introduce section 114(4) which provides that "Section 48 applies to a proposed arrangement…to the extent that the arrangement would result in any re-acquisition by a company of any of its previously issued securities". Section 114(1)(e) of the New Act includes, as part of a scheme of arrangement, a "re-acquisition by the company of its securities".
Therefore, in our view, section 48(8)(b) cannot be read in isolation but must be interpreted alongside section 114(4) of the New Act. In an attempt to reconcile the provisions of section 48(8)(b) with section 114(4) of the New Act, we are of the opinion that section 48(8)(b) of the New Act is only applicable in the context of a scheme of arrangement that involves a re-acquisition of shares. Not every share acquisition will require compliance with the provisions of section 114 and 115 of the New Act, but rather only where such share acquisition forms part of a broader scheme of arrangement.
It is of utmost importance to be aware of the new requirements attaching to preference share redemptions under the New Act. Failure to properly comply with these requirements can have severe consequences, particularly for preference shareholders. For example, if the requirements of sections 46 and 48 of the New Act are not adhered to, the redemption of their preference shares, upon application to court by the issuer, may be reversed in terms of section 48(6) of the New Act, with the effect that the redemption amount must be repaid to the issuer and the preference shares re-issued. Preference shareholders and issuers should ensure that the provisions of sections 46 and 48 are scrupulously adhered to when preference shares are redeemed.