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COMPANIES: SOLVENCY AND LIQUIDITY TEST

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Article by listed AttorneyNanika Prinsloo

The Companies Act , Act 71 of 2008 is a fairly new Act.  It modernised our laws on Companies, which were quite old and sometimes confusing.  The Act is more specific and clear and the intention is to try and limit damages that are suffered by persons because Company monies are sometimes traded with recklessly.  To determine whether a Company is solvent, so as to avoid that Companies trade while being insolvent which will cause damages to creditors, the Companies Act clarifies how to determine whether the Company is solvent or insolvent.

See Also: Access to a Company's Financial Statements and Other Information
 

WHAT IS THE INSOLVENCY AND LIQUIDITY TEST

For any purpose of the Companies Act, a Company satisfies the solvency and liquidity test at a particular time if, considering all reasonably foreseeable financial circumstances of the Company at that time:

(a)  the assets of the Company or, if the Company is a member of a group of Companies, the aggregate assets of the Company, as fairly valued, equal or exceed the liabilities of the Company or, if the Company is a member of a group of Companies, the aggregate liabilities of the Company, as fairly valued; and

(b)  it appears that the Company will be able to pay its debts as they become due in the ordinary course of business for a period of 12 months after the date on which the test is considered, or in the case of a distribution, 12 months following that distribution.
 

ON WHAT MUST THE TEST BE BASED: ACCOUNTING RECORDS – SECTION 28 OF THE COMPANIES ACT

Any financial information to be considered concerning the company must be based on  accounting records that satisfy the requirements of section 28 of the Companies Act. Section 28 says that Company must keep accurate and complete accounting records in one of the official languages of the Republic as necessary to enable the Company to satisfy its obligations in terms of the Companies Act or any other law with respect to the preparation of financial statements. Section 28 states further that the accounting records must be kept at, or be accessible from, the registered office of the Company.

It is an offence for a Company with an intention to deceive or mislead any person to fail to keep accurate or complete accounting records, or to keep records other than in the prescribed manner and form, if any, or  to falsify any of its accounting records, or permit any person to do so. The Corporate and Intellectual Property Commission (CIPC) – where all Companies are registered, the Commission may issue a compliance notice, to a Company in respect of any failure by the Company to comply with the requirements with regards to the keeping of accounting records, irrespective whether that failure constitutes an offence as determined by the Companies Act.   
 

ON WHAT MUST THE TEST BE BASED: ACCOUNTING RECORDS – SECTION 29 OF THE COMPANIES ACT

Financial statements must also satisfy requirements of Section 29 of the Companies Act.

Section 29 states that if a Company provides any financial statements, including any  annual financial statements, to any person for any reason, those statements must:

(a)  satisfy the financial reporting standards as to form and content, if any such standards are prescribed;

(b)  present fairly the state of affairs and business of the Company, and explain the transactions and financial position of the business of the Company;

(c)  show the Company’s assets, liabilities and equity, as well as its income and expenses, and any other prescribed information;

(d)  set out the date on which the statements were produced, and the accounting period to which the statements apply; and

(e)  bear, on the first page of the statements, a prominent notice indicating whether the statements  have been audited in compliance with any applicable requirements of the Companies Act;

(f)   if not audited, have been independently reviewed in compliance with any applicable requirements of this Act; or

(g)  have not been audited or independently reviewed; and the name, and professional designation, if any, of the individual who prepared, or supervised the preparation of, those statements.

We are going to suffice with the requirements for financial statements here, as this article is about the solvency and liquidity test.  We gave the above information to show that the solvency and liquidity test must be based on the financial statements and the financial statements must comply with the Companies Act.  Follow this link  to read our article on the requirements for financial statements as determined by sections 28 and 29
 

APPLYING THE LIQUIDITY AND SOLVENCY TEST

Any person or the board of a Company who apply the solvency and liquidity test to a Company, must consider a fair valuation of the Company’s assets and liabilities, including any reasonably foreseeable contingent assets and liabilities, irrespective of whether or not arising as a result of the proposed distribution, or otherwise; and  may consider any other valuation of the Company’s assets and liabilities that is reasonable in the circumstances.

Unless the Memorandum of Incorporation of the Company provides otherwise, a person applying the test in respect of a distribution is not to be regarded as a liability any amount that would be required, if the Company were to be liquidated at the time of the distribution, to satisfy the preferential rights upon liquidation of shareholders whose preferential rights upon liquidation are superior to the preferential rights upon liquidation of those receiving the distribution.

In terms of the Companies Act, a ‘‘distribution’’ means a direct or indirect transfer by a Company of money or other property of the Company, other than its own shares, to or for the benefit of one more holders of any of the shares of that Company or of another Company within the same group of Companies either  in the form of a dividend or  as a payment in lieu of a capital.

 

This article was written by Nanika Prinsloo of Prinsloo and Associates Attorneys and Conveyancers.

Cell:  072 8558 106

Email:  nanika@vodamail.co.za

Website:  www.empowerlaw.co.za