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Republic of South Africa

IN THE HIGH COURT OF SOUTH AFRICA

(WESTERN CAPE DIVISION, CAPE TOWN)

Case No: 9900/2016

Before: The Hon. Mr Justice Binns-Ward

Dates of hearing: 29-30 August, 1 September 2016

Date of judgment: 11 October 2016

In the matter between:

LEWIS GROUP LIMITED                                                                                                       Applicant

and

DAVID FARRING WOOLLAM                                                                                   First Respondent

JOHAN ENSLIN                                                                                                        Second Respondent

LESLIE ALAN DAVIES                                                                                               Third Respondent

DAVID MORRIS NUREK                                                                                          Fourth Respondent

HILTON SAVEN                                                                                                            Fifth Respondent

JUDGMENT

BINNS-WARD J:

[1] Lewis Group Limited, the applicant in this case, is a public company listed on the Johannesburg Securities Exchange.  It is the holding company of Lewis Stores (Pty) Ltd, which operates over 700 retail outlets throughout Southern Africa.  The company also owns all the shares in Monarch Insurance Company Ltd.  It has applied, in terms of s 165(3) of the Companies Act 71 of 2008 (‘the 2008 Companies Act’), for an order setting aside a demand in terms of s 165(2)[1] served on it by the first respondent, Mr David Woollam.  Section 165(3) of the Act permits a company upon which such a demand has been served to apply ‘to a court to set aside the demand only on the grounds that it is frivolous, vexatious or without merit’.

[2] Woollam is a person entitled to be registered as a shareholder of the applicant company.  His entitlement arises from his quite recent acquisition of 3010 ordinary shares in the applicant.  The shares are currently held for him by a nominee.  He describes himself as their ‘beneficial owner’. 

[3] Woollam served the demand purporting thereby to exercise the right conferred in terms of s 165(2)(a) of the 2008 Companies Act.  That provision entitles any shareholder or person entitled to be registered as a shareholder to ‘serve a demand upon a company to commence or continue legal proceedings, or take related steps, to protect the legal interests of the company’.  The service of such a demand is the first step that any person with standing[2] is required to take to enable such person, if so advised, and if the company does not accede to the demand, thereafter, with the leave of the court to be obtained in terms of s 165(5), to commence or continue the relevant legal proceedings in the company’s name.

[4] The demand, dated 20 May 2016, calls upon the applicant company ‘to protect its legal interests, more specifically, … [by commencing] proceedings to declare as delinquent’ four of the company’s directors, namely Messrs Johan Enslin, Leslie Davies, David Nurek and Hilton Saven (the second to fifth respondents, respectively).  The demand presaged six separate grounds for Woollam’s contention that proceedings should be instituted by the company for a declaration that the second to fifth respondents should be declared delinquent directors.  These were:

1.      That loss of employment insurance was being sold to customers of Lewis Stores who were pensioners and self-employed persons and thus had no insurable interest in terms of the relevant insurance policies.

2.      That Lewis Stores’ customers were required, whether they wished to or not, to purchase extended warranties on goods purchased.

3.      That compulsory delivery fees were charged to Lewis Stores customers, irrespective of whether they required delivery of the goods to be effected.

4.      That the group’s accounts had for many years appeared to overstate revenue from the sale of insurance policies.

5.      That the group had inappropriate revenue recognition policies with regard to the sale of extended warranties that resulted in the on-going overstatement of reported revenue.

6.      ‘The incorrect processing of various accounting policy errors and the changing of estimates, as “prior year adjustments” in the interim results for the period ended 30 September 2015.’[3]

[5] It is common ground that the proceedings that Woollam wants the company to commence would be those provided for in terms of s 162 of the 2008 Companies Act.  The provision that a person with standing can apply to have a director or former director declared delinquent or ‘placed under probation’ is a novel remedy.  It was not available under any of the statutory predecessors of the 2008 Companies Act.  The effect of a declaration of a person as delinquent is that he or she is thereupon disqualified, for so long as the declaration remains in force, from being a director of any company;[4] see s 69(8)(a) of the 2008 Companies Act.[5]

[6] The informed reader will have deduced from what has been said so far that the statutory demand provided for in terms of s 165(2) of the 2008 Companies Act is a procedural precursor to the possible institution by the person serving it of what lawyers refer to as a ‘derivative action’.  Such reader would therefore find no surprise in the heading to s 165, which is ‘Derivative actions’.  As far as my researches could determine, however, he or she would not have encountered a case, here or abroad, in which the type of relief that Woollam ultimately seeks to obtain under s 162 in this matter has been sought or granted in derivative proceedings.  Indeed, in the other jurisdictions, to whose systems and law our courts make most frequent comparative reference in the field of company law,[6] equivalent orders to the ones identified in Woollam’s demand are generally to be had at the instance of the relevant regulatory or statutory authority, rather than private litigants - although there are exceptions. 

[7] In the United Kingdom, the disqualification of directors is regulated in terms of the Company Directors Disqualification Act, 1986.[7]  Under the UK legislation, courts can make disqualification orders mero motu in certain circumstances[8] and in other instances upon the application of the Secretary of State or, upon the direction of the Secretary of State, by the official receiver of a company in winding-up.  Liquidators and official and administrative receivers are required to report to the Secretary of State any circumstances discovered by them in the discharge of their functions in which a disqualification order might be indicated.  The only individuals who appear to have standing to apply for disqualification orders under the UK legislation are past or present members or creditors of any company ‘in relation to which that person has committed or is alleged to have committed an offence or other default’.[9]  An application by a member or creditor in terms of the relevant standing provision under the UK legislation is unambiguously personal in character, and definitely not to be brought derivatively.

[8] In Australia, disqualification orders are obtained at the instance of the Australian Securities and Investments Commission (ASIC).[10]  The relevant objects and functions of ASIC include maintaining, facilitating and improving the performance of the Australian financial system and the entities within that system in the interests of commercial certainty, reducing business costs, promoting the efficiency and development of the economy and the confident and informed participation of investors and consumers in the financial system.[11]  ASIC’s functions are clearly directed in the public interest.

[9] In New Zealand, a director of a company commits an offence if the director exercises powers or performs duties as a director of the company - (a) in bad faith towards the company and believing that the conduct is not in the best interests of the company; and (b) knowing that the conduct will cause serious loss to the company (s 138A of the Companies Act, 1993 (NZ)).  Upon conviction for such an offence a director is liable to imprisonment for up to five years or a fine not exceeding NZ$200 000 (s 373(4)).  Any person so convicted is prohibited for a period of five years from the date of the conviction from being a director or from being in any way, directly or indirectly, involved in the management of a company without first obtaining the court’s permission (s 382).  Notice of any application for such permission must be given to the Registrar of Companies, who may oppose it.  In addition to the automatic disqualification provided for in terms of s 382, application for a disqualification order may be made in terms of s 383 of the New Zealand Companies Act by the Registrar of Companies, the Financial Markets Authority, the Official Assignee[12], or by the liquidator of the company, or by a person who is, or has been, a shareholder or creditor of the company.  There is no provision for the company itself to make the application.  It is plain therefore that the New Zealand legislation does not contemplate a disqualification application being brought by way of derivative proceedings.  As in the case of the UK and Australian legislation, it is evident that the New Zealand disqualification of directors regime is directed in the public interest.

[10] The critical difference between the statutory disqualification of directors regimes in the foreign jurisidctions to which I have had reference and that in terms of s 162 of the 2008 Companies Act is that the latter gives standing to companies to bring proceedings for the disqualification of their directors or former directors.

[11] As indicated, assuming the company does not accede to his demand, Woollam seeks to use the derivative action remedy in terms of s 165 to achieve a declaration in terms of s 162 of the 2008 Companies Act in respect of four of the company’s seven directors.  Section 162 of the 2008 Companies Act gives standing to a number of categories of persons, including shareholders and companies, to apply for an order declaring a person to be delinquent.  Subsections 162(2) and 162(5)(c) contain the provisions concerning standing that pertain in the context of the current case.  They apply equally irrespective of whether the company or a shareholder is the applicant.  It is with reference to those subsections that any assessment of whether Woollam’s complaints make out a prima facie case has to occur.  If the complaints do not concern instances of the sort of conduct identified in s 162(5)(c), it would follow that his demands must be unsustainable and therefore without merit.

[12] Sub-section (2) goes as follows, insofar as relevant:

(2)           A company, a shareholder, director, company secretary or prescribed officer of a company, a registered trade union that represents employees of the company or another representative of the employees of a company may apply to a court for an order declaring a person delinquent or under probation if-

(a)           the person is a director of that company or, within the 24 months immediately preceding the application, was a director of that company; and

(b)           any of the circumstances contemplated in-

(i)            subsection (5)(a) to (c) apply, in the case of an application for a declaration of delinquency; or

(ii)           ...

Subsection (5)(c) provides:

(5)           A court must make an order declaring a person to be a delinquent director if the person-

(a)           …;

(b)           …;

(c)           while a director-

(i)            grossly abused the position of director;

(ii)           took personal advantage of information or an opportunity, contrary to section 76(2)(a);[13]

(iii)          intentionally, or by gross negligence, inflicted harm upon the company or a subsidiary of the company, contrary to section 76(2)(a);

(iv)          acted in a manner-

(aa)         that amounted to gross negligence, wilful misconduct or breach of trust in relation to the performance of the director's functions within, and duties to, the company; or

(bb)         contemplated in section 77(3)(a),(b) or (c)[14]

[13] The import of s 162(5)(c) received consideration in the quite recent judgment of the Supreme Court of Appeal in Gihwala and Others v Grancy Property Ltd and Others [2016] ZASCA 35; [2016] 2 All SA 649 (SCA) at paras. 143-144. 

[14] Treating of sub-paragraph (i) thereof, Wallis JA remarked that a gross abuse of the position of director did not involve ‘a trivial misdemeanour or an unfortunate fall from grace’.  Indeed, the adjective ‘gross’ used in a context like ‘gross abuse’ denotes obvious and egregious conduct.[15]  The conduct in question must relate to the use of the position as director, it does not relate to the performance by the person concerned of his or her duties and functions as a director because that is a matter dealt with discretely in terms of sub-paragraph (iv).  Sub-paragraph (i) does not appear to be applicable in respect of Woollam’s complaints.

[15] There is no suggestion in the complaints that any of the second to fifth respondents took personal advantage of information or an opportunity, contrary to section 76(2)(a) of the 2008 Companies Act.  Nothing more need therefore be said about the import of sub-paragraph (ii).

[16] Sub-paragraph (iii) is somewhat clumsily worded, more particularly by reason of its equation of the concept of ‘intentionally’ or ‘by gross negligence’ inflicting harm on the company with that of ‘knowingly causing harm’ in s 76(2)(a).  ‘Knowingly’ is readily reconcilable with ‘intentionally’, but not so with ‘negligently’, even grossly so.  Nevertheless, it is clear enough, I think, that what is required is conduct intended to harm the company, alternatively an attitude of recklessness by the director in the face of an appreciation that his or her conduct could cause the company harm.  While acknowledging that ‘gross negligence’ is a concept that defies precise definition, Scott JA proceeded, in MV Stella Tingas: Transnet Ltd v Owners of the MV. Stella Tingas and Another 2003 (2) SA 473 (SCA), at para 7, to state ‘…to qualify as gross negligence the conduct in question, although falling short of dolus eventualis, must involve a departure from the standard of the reasonable person to such an extent that it may properly be categorized as extreme; it must demonstrate, where there is found to be conscious risk-taking, a complete obtuseness of mind or, where there is no conscious risk-taking, a total failure to take care.  If something less were required, the distinction between ordinary and gross negligence would lose its validity’.  Woollam has not alleged that the second to fifth respondents conducted themselves with the intention of harming the company.  Sub-paragraph (iii) is therefore also not applicable in respect of Woollam’s complaints.

[17] Sub-paragraph (iv) covers a range of grounds.  As will become apparent when consideration is given later in this judgment to Woollam’s grounds of complaint, the only ones that could on any approach merit consideration for present purposes are the carrying on of the company’s business recklessly, with gross negligence, with intent to defraud any person, or for any fraudulent purpose, or acquiescence in the conduct of company’s business in that manner.

[18] It follows that for a company or any of its shareholders to succeed in obtaining a declaration of delinquency in respect of any of the company’s directors or former directors they must demonstrate very serious misconduct by the person concerned.  The relevant causes of delinquency entail either dishonesty, wilful misconduct or gross negligence.  Establishing so-called ‘ordinary’ negligence, poor business decision-making, or misguided reliance by a director on incorrect professional advice will not be enough.  In treating of the equivalent remedy under s 295 of the Companies Act, 1985 (a predecessor of the Company Directors Disqualification Act) Sir Nicolas Browne-Wilkinson V-C remarked in Re Lo-Line Electric Motors Ltd., [1988] 1 Ch. 477 at 486 ‘[o]rdinary commercial misjudgment is in itself not sufficient to justify disqualification.  In the normal case, the conduct complained of must display a lack of commercial probity, although I have no doubt that in an extreme case of gross negligence or total incompetence disqualification could be appropriate’.  In Re Sevenoaks Stationers (Retail) Ltd. [1991] Ch. 164 (C.A.), a case in which a director concerned had been completely remiss in respect of his duties, although not dishonest, Dillon LJ held (at p. 184) that ‘incompetence or negligence in a very marked degree ... is enough to render him unfit; I do not think it is necessary for incompetence to “total”, as suggested by the Vice-Chancellor in [Re Lo-Line Electric Motors], to render a director unfit to take part in the management of a company’.  An illuminating review of the considerations that the English courts have regarded as relevant in this regard is to be found in Secretary of State for Trade and Industry v. Goldberg (No. 2) [2003] EWHC 2843 (Ch.), [2004] 1 BCLC 597.

[19] Whether the grounds of complaint, considered in the context of the evidence in the current proceedings, make out a sustainable case worthy of investigation in terms of s 165(4), or capable of supporting an application in terms of s 165(5) of the 2008 Companies Act for leave to proceed derivatively will be considered presently to the extent necessary.  A preliminary question, however, is whether a person is able to proceed derivatively for the given relief when that person is given standing under the Act to proceed for such relief personally.

[20] Despite his ownership of 3010 of the 98 057 959 issued shares in the applicant company, Woollam is not a ‘shareholder’ within the defined meaning of the word.  A ‘shareholder’ is defined in s 1 of the Act to mean, insofar as currently relevant, ‘… the holder of a share issued by a company and who is entered as such in the certificated or uncertificated securities register, as the case may be’.  The applicant’s counsel submitted, however, that Woollam could very easily qualify himself as a shareholder (as defined) of the applicant company simply by obtaining the registration into his name of one or more of the shares beneficially owned by him.  The first respondent’s counsel, reasonably, did not take issue with that submission.  I consider that it would be justified in the circumstances, to the extent that the determination of the application requires taking the contextual import of s 162 of the 2008 Companies Act into account, to regard Woollam for that purpose as if he were in fact a shareholder of the applicant.

[21] Pointing to the right afforded by s 162 to shareholders directly to institute proceedings for a declaration that a director or former director of the company in which they hold shares is a delinquent person, the applicant’s counsel argued, consistently with a contention to that effect in the founding affidavit, that as a matter of principle there is no proper basis for Woollam to be afforded standing on the exceptional basis implicit in a derivative action.  The applicant’s counsel submitted that Woollam’s demand on the company under the derivative actions provisions of the 2008 Companies Act was plainly vexatious because he could seek the relief personally. 

[22] Mr De Wet, who took the main argument for the first respondent, conceded, correctly in my view, that if, upon a proper construction of the Act, a shareholder were not entitled to avail of s 165 of the new Companies Act for the institution of proceedings for the remedy he could seek personally in terms of s 162, the demand would indeed have been vexatious.  The first respondent’s counsel argued, however, that Woolam’s claims to standing under ss 165 and s 162, respectively, were not mutually exclusive, and that he was therefore entitled to elect to proceed derivatively for relief that he could also seek personally.

[23] Section 165 of the 2008 Companies Act expressly abolishes our common law in respect of derivative actions in respect of the exercise or protection of the rights or legal interests of companies[16] and puts its own provisions in the place of the abolished law. The act of abolition is contained in subsection (1); that of substitution in the other fifteen subsections of the provision. [17]

[24] Subsection (1) was probably worded in the manner that it is cognisant of the experience in Canada, where provincial enactments codifying the law in respect of derivative actions were introduced without any provision therein for the abolition of the common law.[18]  The failure to include an express provision abolishing the common law remedy gave rise to contentions by some litigants that the common law continued in force alongside the new statutory regimes.  The contentions were advanced by litigants who sought to avoid the requirement of having to obtain the leave of the courts to proceed derivatively that had been introduced in the Canadian statutory regimes – as it also has been in terms of s 165 of our Act.  It took decisions by the courts in cases like Farnham v Fingold [1973] 2 OR 132 (CA), 1973 CanLII 523 (ON CA) and Shield Development Co v Snyder et al and Western Mines Ltd [1976] 3 WWR 44 (BCSC) to conclusively confirm that the common law had been codified by the new statutory regimes and that derivative action proceedings thenceforth could be prosecuted solely in conformance with the statutory provisions. 

[25] It is evident that s 165 manifests the comprehensive codification of the relevant law insofar as it concerns companies (as defined in s 1 of the Act).  The import of ‘abolition’ in the context of subsection (1) should be understood accordingly; it does not denote a doing away with the established legal concept of derivative proceedings, but rather the creation of a slate for its statutory restatement and reform.  The restatement and reform is manifest in the content of subsections (2) – (16).  Derivative actions at common law were directed at obtaining redress for the company in respect of wrongs done to the company or to recover the property of the company or to enforce its rights.  The codified provisions in s 165 reiterate the principle that it is in respect of the ‘legal interests’ of the company, as distinct from those of the person applying to institute it, that a derivative action may be permitted. 

[26] It bears noting at once that it has already been remarked in a judgment of the appeal court that the abolition of the common law in terms of s 165(1) has left unaffected the standing of shareholders to litigate directly in respect of matters affecting their personal, as distinct from their corporate, rights as shareholders; see Communicare and Others v Khan and Another 2013 (4) SA 482 (SCA) at para 20.  This serves to underscore the enduring distinction between the nature of the derivative action and that of the personal action.  The former is a remedy to be exercised in the defence or advancement of the company’s rights or interests, and not the personal rights of the plaintiff.[19]

[27] The term ‘derivative action’ comes from the English law.  In the corporate context, it relates to proceedings instituted by persons given standing to litigate in their own names for and behalf of the corporation in respect of wrongs done to the corporation.[20]  Such proceedings were entertained in the limited circumstances that gave rise to the recognised exceptions to the rule in Foss v Harbottle [21] (often also called ‘the proper plaintiff rule’).  The label ‘derivative’ was applied because although the litigation was instituted and prosecuted in A’s name, the right of action concerned was derived from B.[22]  Moreover, the benefits of any judgment obtained in favour of A in such an action, accrue to B, not A.  In the current case it is evident that a shareholder’s right to seek a declaration against a director or former director in terms of s 162 of the 2008 Companies Act does not derive from the company.  It is invested directly and personally in the shareholder by the section itself.  The shareholder’s right co-exists with the identical right separately invested in the company by the very same provision.

[28] Hoexter JA gave the following exposition of the derivative action in Francis George Hill Family Trust v South African Reserve Bank and Others 1992 (3) SA 91 (A), at 97B-G:

It is trite that a company with limited liability is an independent legal person and separate from its shareholders or directors. In general, therefore, when a wrong is alleged to have been done to a company the proper plaintiff to sue the wrongdoer is the company itself. In English law a derivative action constitutes an exception to that general rule. The exception is recognised when (1) the wrong complained of involves conduct which is either fraudulent or ultra vires and (2) the wrong has been perpetrated by directors or shareholders who are in the majority and so control the company. See, for example: Burland and Others v Earle and Others [1902] AC 83 (PC); Edwards and Another v Halliwell and Others [1950] 2 All ER 1064 (CA) at 1066-7; Prudential Assurance Co Ltd v Newman Industries Ltd and Others (No 2) [1982] 1 All ER 354 (CA). The principle underlying the exception to the general rule is expounded thus by Lord Denning MR in Wallersteiner v Moir (No 2); Moir v Wallersteiner and Others (No 2) [1975] 1 All ER 849 (CA) at 857d-f:

'If it is defrauded by a wrongdoer, the company itself is the one person to sue for the damage. Such is the rule in Foss v Harbottle. The rule is easy enough to apply when the company is defrauded by outsiders. The company itself is the only person who can sue. Likewise, when it is defrauded by insiders of a minor kind, once again the company is the only person who can sue. But suppose it is defrauded by insiders who control its affairs - by directors who hold a majority of shares - who can then sue for damages? Those directors are themselves the wrongdoers. If a board meeting is held, they will not authorise proceedings to be taken by the company against themselves. If a general meeting is called, they will vote down any suggestion that the company should sue them themselves. Yet the company is the one person who is damnified. In one way or another some means must be found for the company to sue. Otherwise the law would fail in its purpose. Injustice would be done without redress.'

(It is worthy of note that in Prudential Assurance v Newman Industries (2) supra,[23] the Court of Appeal, without finding it necessary to decide the point, showed a notable lack of enthusiasm about adopting the broader view that had been expressed by Vinelott J in the court of first instance ([1981] Ch. 257 at p. 327) that a shareholder was entitled to prosecute an action on behalf of the company if ‘the interests of justice do require that a minority action should be permitted’.[24]  Thus, while it has always been acknowledged that the rule in Foss v Harbottle is not inflexible, the judicial approach to entertaining derivative proceedings in circumstances not falling within the recognised exceptions to it has been restrained.)

[29] The question of whether the English law in respect of derivative actions had been adopted as part of our common law was left open by the Appellate Division in Hill Family Trust supra.  Having concluded that the proceedings in that matter did not on the facts of the case fall ‘within the exception in English law to the rule in Foss v Harbottle’, the Court (at p.98B) held it to have been ‘unnecessary to consider the further point … whether (apart from the statutory remedy provided by s 266 of the Companies Act 61 of 1973) the common law exception to the rule in Foss v Harbottle forms part of South African law’.[25]

[30] Subsequent decisions of the Supreme Court of Appeal appear, however, to have accepted, without discussion, that the common law exception did form part of our law.[26]  I think it is fair to infer in the circumstances that the rule in Foss v Harbottle and the exceptions to it recognised in the English jurisprudence represent our common law on derivative actions.  Section 165 of the 2008 therefore falls to be construed as abolishing the exceptions to the rule in Foss v Harbottle imported into our law in the form they exist in the English common law and substituting them in codified form.

[31] The following passage in the judgment of Jenkins LJ in Edwards v Halliwell supra, at 1067 (All ER) appears to command universal respect in the English jurisprudence as an accurate statement of the scope of the exceptions to the rule in Foss v Harbottle:

The cases falling within the general ambit of the rule are subject to certain exceptions. It has been noted in the course of argument that in cases where the act complained of is wholly ultra vires the company or association the rule has no application because there is no question of the transaction being confirmed by any majority. It has been further pointed out that where what has been done amounts to what is generally called in these cases a fraud on the minority and the wrongdoers are themselves in control of the company, the rule is relaxed in favour of the aggrieved minority who are allowed to bring what is known as a minority shareholders’ action on behalf of themselves and all others. The reason for this is that, if they were denied that right, their grievance could never reach the court because the wrongdoers themselves, being in control, would not allow the company to sue. Those exceptions are not directly in point in this case, but they show, especially the last one, that the rule is not an inflexible rule and it will be relaxed where necessary in the interests of justice.

There is a further exception which seems to me to touch this case directly. That is the exception noted by Romer J in Cotter v National Union of Seamen [[1929] 2 Ch. 58]. He pointed out that the rule did not prevent an individual member from suing if the matter in respect of which he was suing was one which could validly be done or sanctioned, not by a simple majority of the members of the company or association, but only by some special majority, as, for instance, in the case of a limited company under the Companies Act, a special resolution duly passed as such. As Romer J pointed out, the reason for that exception is clear, because otherwise, if the rule were applied in its full rigour, a company which, by its directors, had broken its own regulations by doing something without a special resolution which could only be done validly by a special resolution could assert that it alone was the proper plaintiff in any consequent action and the effect would be to allow a company acting in breach of its articles to do de facto by ordinary resolution that which according to its own regulations could only be done by special resolution.

In Prudential Assurance supra, at p. 211b (Chancery Report), the Court of Appeal (Cumming-Bruce, Templeman and Brightman LJJ writing jointly) remarked on the reason for existence of the derivative action as a relaxation of the rule in Foss v Harbottle as being that if the aggrieved minority shareholders were denied the right to approach the court ‘on behalf of themselves and all others’ ‘their grievance could never reach the court because the wrongdoers themselves, being in control, would not allow the company to sue’.  There is nothing to be found in s 165 of the 2008 Companies Act that alters the essential rationale for derivative proceedings.  It permits the institution or continuance of proceedings in a company’s best interests in circumstances in which the company is refraining from acting on its own initiative, and which would, for that reason, otherwise not reach the court.

[32] Section 165 of the 2008 Companies Act also serves to replace the statutory supplement to the common law that used to be afforded in terms of s 266 of the Companies Act 61 of 1973.[27]  In certain respects the new provision reintroduces, as generally applicable to derivative actions, various procedural aspects that were special to the statutory provision under the earlier Act.  For example, (i) that derivative proceedings were preceded by an independent investigation, (ii) that the derivative proceedings could only be prosecuted with the leave of the court, (iii) that the proceedings were conducted in the company’s name, not that of the litigant who instituted them and (iv) that, once commenced, the proceedings could only be settled or withdrawn with the leave of the court.  In all these respects the statutory regime under both Acts differs from the position obtaining under the common law.  All of these aspects introduced by the statutory regime serve to emphasise and confirm that the modern derivative action is effectively litigation conducted for a company by a representative litigant under the court’s authority.  It is not a vehicle for a litigant to assert or protect his or her own legal interests using the company’s name and legal personality.

[33] One of the most obviously reformative aspects of s 165 of the 2008 Companies Act is that standing to bring derivative actions is afforded more widely than it appears to have been under the common law.  Standing is afforded under s 165 also to directors, employee representatives and any other person who might obtain the court’s leave to proceed derivatively.  The provisions which give standing to directors and employee representatives are no doubt reflective of the modern recognition that persons other than shareholders have a legitimate and cognisable interest in the assertion or defence of a company’s legal interests in its best interests.  Thus, for example, whilst the majority of shareholders might be prepared to condone loss occasioned to a company due to the negligent conduct of its directors, employees faced with resultant redundancy or wage cuts might have a different view and be able to persuade a court that objectively it would be in the company’s best interests to seek redress against the negligent directors.

[34] The common law requirement that a person seeking to litigate derivatively show that the wrongdoers’ control of the company was being exercised to thwart the company taking action itself (Pavlides v Jensen [1956] Ch 565) is significantly watered down in the codified version of the law substituted in terms of s 165.  Section 165 of the 2008 Companies Act requires no more than that the company has been given the opportunity to institute the action itself.  It is not necessary to show that the wrongdoers control the company’s decision-making mechanism.  But that effect is materially counterbalanced by the provisions of s 165(5), which has introduced a generally applicable requirement that a derivative action may be instituted only with the court’s leave, and also by the presumption created in s 165(7).  Before it can grant leave for the institution or continuation of proceedings derivatively, a court must be satisfied, amongst other things, that it would be in the best interests of the company.[28]

[35] The continued significance in the context of the new statutory regime of the ‘majority rule’ concept in corporate governance (cf. Sammel and Others v President Brand Gold Mining Co Ltd 1969 (3) SA 629 (A) at 678H-679C) is evident in s 165(7),[29] which, if various things are established, including that the company has decided not to bring or defend the proceedings, raises a rebuttable presumption against any person applying for leave to institute or defend an action derivatively in which a ‘third party’ is the defendant or plaintiff, as the case might be, that the proceedings would not be in the best interests of the company. 

[36] A ‘third party’ is anyone who is not related or inter-related to the company.  What is meant by a relationship or inter-relationship in this context is determined by s 2 of the Act.  A natural person is related to a company if he or she is in a position to control it.  Control is determined essentially with reference to the exercise of majority voting rights associated with the securities of a company. 

[37] The definition of ‘third parties’ (see s 165(8)[30] and s 2(1)(b)[31] of the 2008 Companies Act) would appear to include the four directors Woollam contends should be declared delinquent in the current case.  This is so because it is evident that they are not able, individually or collectively, to control the exercise of a majority of the voting rights associated with securities of the company, or control the appointment or election of its directors.[32]

[38] Professor Cassim argues (op. cit. supra, at pp. 107-109[33]) that the aforementioned effect of sub-secs 165(7) and (8) is a ‘most disturbing’ weakness in the Act ‘as it overlooks the cardinal point that derivative actions in the majority of cases are brought to protect the company against its own errant directors’.[34]  In my view, the effect of the provisions amounts to no than a reiteration, albeit in a notably diluted form, of the common law requirement that control of the company by the alleged wrongdoers had to be established by the person who chose to litigate derivatively.  It is but one of several indicators in s 165 of an intention by the legislature to keep the codified derivative action remedy within recognisably similar bounds to those that delimit its availability under the common law.  In other words, unless it is shown that those in control of the company are for reasons to their own advantage but adverse to the company’s best interests thwarting action being taken by the company, there is a presumption that leave to proceed derivatively should not be granted when the company elects not to proceed against a ‘third party’.

[39] In considering the preliminary question it is striking to note the absence of any express provision in s 165 affording standing to bring derivative proceedings to certain parties who are afforded standing to apply for declarations of delinquency under s 162, namely the Companies and Intellectual Property Commission,[35] the Takeover Regulation Panel[36] and other organs of state responsible for the administration of any legislation.[37]  In my view, the discrete and distinctive standing provisions under the two sections are indicative of a conscious distinction by the legislature between the concept of the legal interests of a particular company, to which proceedings in terms of s 165 relate, and that of the protection of the public interest that is the acknowledged object of s 162.[38]  So, for example, repeated and serious infractions by a company of the National Credit Act or of the accounting standard requirements of the Companies Act – matters which lie at the heart of Woollam’s allegations – might make the National Credit Regulator or the Companies Commission institute proceedings in terms of s 162 against the responsible directors.  They would have standing under that provision, but they could not purport to use s 165.  This serves to illustrate that in proceedings in terms of s 162, it is not the ‘legal interests’ of the company in the sense comprehended by s 165(2) that are engaged.

[40] It is significant that the evident object of s 162 goes essentially to the provision of a protective remedy in the public interest, and it is only incidentally that the provision can in some circumstances operate arising out of a wrong done to an individual company.[39]  In Gihwala supra, at para 142, the purpose of the provision was described as being ‘to protect the investing public, whether sophisticated or unsophisticated, against the type of conduct that leads to an order of delinquency, and to protect those who deal with companies against the misconduct of delinquent directors’.[40]  Its protective object was given as ‘…to ensure that those who invest in companies, big or small, are protected against directors who engage in serious misconduct of the type described in these sections. That is conduct that breaches the bond of trust that shareholders have in the people they appoint to the board of directors. Directors who show themselves unworthy of that trust are declared delinquent and excluded from the office of director. It protects those who deal with companies by seeking to ensure that the management of those companies is in fit hands. And it is required in the public interest that those who enjoy the benefits of incorporation and limited liability should not abuse their position’.[41] 

[41] The remedy bears on the public law status of the allegedly delinquent person rather than the assertion of a company’s individual rights, and the purpose, as Wallis JA observed in Gihwala, is the protection, in the public interest, of those who deal with companies. Indeed, tellingly, the experience in Britain appears to be that disqualification proceedings often arise out of the conduct of the affected director in relation to more than one company; see Wadge Rapps & Hunt supra, at para. 71.  That the remedy goes to the affected director’s status is supported by the observations about disqualification orders by Kirby J in his minority judgment in Rich v ASIC supra, at paras. 104-105:

Disqualification from corporate management was a quid pro quo for the trust essential to the enjoyment of the powers and privileges of that position. Because corporations are creatures of statute, as are their officers, the entitlement of corporate governance is a statutory privilege. It is inherently susceptible to variation or withdrawal upon demonstrated unfitness to enjoy that privilege. An impact of that withdrawal on the person affected is inescapable. However, that impact does not give the disqualification order its character. That character derives from the regulation of corporations and of the officers whom the community permits to hold themselves out to the world as fit managers of shareholders' funds, entitled as such to the confidence of investors, employees, traders and the community generally. 



People such as the appellants (or anyone else for that matter) have no right to be involved in company management. It is a statutory privilege to be earned each day. That privilege may be withdrawn for misconduct but also for incompetent, improper or lax activities in the functions of corporate management. Given the critical importance of the good management of corporations for investors, employees, traders, the nation and the wider world, the [Australian Corporations] Act, like its 1928 predecessor in Britain, has provided for the removal from corporate management of persons guilty of repeated contraventions of the Act.’ (Emphasis in the original.)

[42] Section 162 is directed at ensuring that persons guilty of specified serious misconduct or serial non-compliers with applicable regulatory legislation are disqualified from holding office as directors of any companies, or, if the court considers it appropriate to limit the extent of the declaration, specified categories of companies.[42]  Thus, in the case of the fourth respondent, the declaration that Woollam contends should be sought would have the effect of terminating his appointment not only as a director of the applicant company and one of its subsidiaries, but also of nine other companies, some of which are listed and none of which appear to be related to the applicant.  It would also disqualify him from assuming office as a director of any company whatsoever for at least seven years from the date of the order.  There is nothing peculiarly in the applicant company’s legal interests about that, which would not equally be in the interests of any other member of the public exposed to dealing with any company of which the fourth respondent currently is a director, or might in the future become one.  The right given to the company to make an application in terms of s 162 is therefore not to act in its own legal interests (which it is able to address in terms of s 71 of the Act), but in the public interest.  This is demonstrated by the fact that a company may remove a director in terms of s 71, and thereafter proceed for a declaration of delinquency against the person concerned notwithstanding that he or she would by then no longer be involved in the administration of the company.  The proceedings under s 162 are discrete from the remedies that the company might also seek to exact against the delinquent in respect of its own legal interests by seeking compensation for any harm inflicted on the company.  It is in respect of the latter remedies that a shareholder might obtain leave to act derivatively, if appropriate.

[43] The right of the shareholder that is afforded protection in terms of s 162 is not a right of the company; it is the separate and personal right that each and every shareholder enjoys individually as an investor to take action to ensure that the management of companies in general is kept in fit hands.  The personal nature of the right, which falls to be exercised by a shareholder when there has been a serious breach of what Wallis JA called the ‘bond of trust’ between a shareholder and the company’s directors,[43] is demonstrated by the consideration that a declaration of delinquency obtained by a shareholder in company A will also ordinarily result in the disqualification of the director concerned as a director of companies B and C, even though it might be practically impossible for those others companies to continue in business without him.  Indeed, even the best interests of company A would not stand in the way of a ability of shareholder of that company to have a director of the company declared delinquent if the shareholder were able to prove misconduct by the director in respect of the management of company A that showed that it would be in the public interest to have the director declared delinquent.  In other words, considerations that are pivotal in any application for leave to act derivatively in terms of s 165 do not bear at all on proceedings in terms of s 162.

[44] A shareholder proceeding personally in terms of s 162 is also not required to satisfy the court that a declaration of delinquency of the director concerned entailed ‘a serious question of material consequence to the company’.  Nor is he or she required to serve a demand in terms of s 165(2) on any of the other companies of which the director concerned also serves as a director, notwithstanding that in the context of egregious misconduct by the director necessitating the protection of persons dealing with companies in general being the rationale for the remedy, the legal interests of such other companies in the obtaining of a protective order would be indistinguishable from that of the company on which a demand would have to be served.

[45] Moreover, the investigation procedure contemplated in s 165(4) would be likely to give rise to an intractable conflict of interest situation when it is not the interests of the company, but the personal status of the directors themselves that is in issue.  The directors, who might constitute a number required to make up that needed for a quorate meeting of the board,[44] would probably be required to recuse themselves, thus putting the company in a position in which it was not able to decide whether to proceed itself or not.  A decision by the company that it will not proceed is a sine qua non to the institution of a derivative action.  The preliminary procedures in terms of s 165 are just not well suited to proceedings by shareholders for the declaration of the directors as delinquent. 

[46] There would also be something paradoxical in the notion that a shareholder could put a company to the trouble and expense of commissioning an investigation and thereafter be refused leave by a court in terms of s 165(5) to proceed derivatively, only to be able to proceed personally for the relief regardless.  The antinomy that is inherent in the construction of the legislation contended for by the first respondent’s counsel is unlikely to have been intended by the legislature. 

[47] The purpose of the demand and the contemplated ensuing investigation is to provide a filter.  The leave that a person seeking to litigate derivatively must obtain in terms of s 165(5) serves a similar purpose.  I think it is important in this respect to acknowledge that the evident purpose of the demand and investigation is to give the company the opportunity to make a properly informed decision whether to litigate itself.  It is significant in this respect that the investigator’s report falls to be submitted to the company’s board of directors, not to the complainant.  The statutorily mandated investigation is not intended to provide a mechanism for disgruntled parties to launch a fishing expedition for facts to found an action. On the contrary a complainant who is unable in its demand to set forth with cogency, albeit not necessarily with the precision required for pleading it, a basis for the company to institute or continue with the contemplated proceedings would be acting vexatiously.  The inbuilt filtering process, with its attendant impositions on the company and the court, is an entirely redundant exercise, however, if the intending litigant is able to proceed for the relief sought regardless of its outcome.   There is no inbuilt filtering process for proceedings in terms of s 162.

[48] The right given by s 162(2) to shareholders to apply personally for a declaration of delinquency is exactly co-extensive with the standing afforded to companies under the same provision.  Treating of a situation in which the same wrongful act was both a wrong to the company and a wrong to each individual shareholder the Ontario Court of Appeal stated, in Goldex Mines Ltd. v. Revill (1974) 1974 CanLII 433 (ON CA), 7 O.R. (2d) 216:

In one sense every injury to a company is indirectly an injury to its shareholders. On the other hand, if one applies the test:

“Is this wrongful act one in respect of which the company could sue?", a shareholder who is personally and directly injured must surely be entitled to say, as a matter of logic, "the company cannot sue for my injury; it can only sue for its own”.

The corollary must surely be that when both the company and the shareholder have the same standing to sue for the same relief on the basis of the same facts the company must be entitled to say the shareholder has no need in the interests of justice to litigate in the corporation’s name when he can do so in his own.  In Goldex Mines the court answered the question ‘Where the same acts of directors or of shareholders cause damage to the company and also to shareholders or a class of them, is a shareholder's cause of action for the wrong done to him derivative?’ in the negative.[45] 

[49] A delinquency declaration being the remedy ultimately sought by Woollam, it bears remembering that the duty of company directors to act honestly and in accordance with their fiduciary duties to the company is owed not only to the company, but also to the shareholders personally.[46]  That is borne out by the provisions of s 218(2) of the Act (accepting, of course, that a shareholder could not claim under that provision for so-called ‘reflective loss’ because that would expose the directors to double jeopardy); cf. also Grancy Property Limited and Another v Gihwala and Others; In Re: Grancy Property Limited and Another v Gihwala and Others [2014] ZAWCHC 97, at para. 104.  These considerations afford further indications that it is not within the scheme of the Act that shareholders should ordinarily seek to proceed derivatively to obtain the remedy available in terms of s 162.  The rationale for derivative proceedings, whether under the common law or in terms of s 165 of the 2008 Companies Act, is to afford a means, in the interest of justice, for redress to be obtained where ‘the proper (corporate) plaintiff’ declines to seek it.  The rationale for derivative proceedings is absent when the person who would otherwise be done an injustice by reason of ‘the proper plaintiff’s’ failure to act has personal standing to seek the indicated relief.[47]

[50] The qualification ‘ordinarily’ was inserted in the preceding paragraph because, notwithstanding the reasons I have given for finding that standing to litigate derivatively is generally not indicated when the litigant has standing to obtain its remedy by litigating personally, the language of ss 162 and 165 read together does not expressly exclude the use of the derivative action procedure in s 162 proceedings.  It is not inconceivable that, exceptionally, it might be appropriate in certain circumstances.  It would be appropriate, in construing the Act in accordance with the precepts of ss 5 and 7 thereof, to recognise as much.

[51] An example that suggests itself as a possibility is a case in which the company has already instituted proceedings for a declaration of delinquency, but for reasons that do bear scrutiny has failed to prosecute them to conclusion.  In those circumstances the best interests of the company might be served by the continuation of the proceedings derivatively.  The costs incurred by the company in taking the case to the stage that had been reached when proceedings had stalled would be squandered were the complainant shareholder to initiate proceedings afresh for the same relief on the same facts in its own name.  A sensible basis in the company’s best interests for the granting of derivative standing to a shareholder could conceivably be demonstrable in the postulated example.

[52] There is nothing, however, in the nature of Woollam’s complaints or the content of his demand to indicate why he should be allowed to proceed derivatively for relief that he is able to claim personally.  In my judgement, for the reasons discussed, that shows that his resort to s 165 of the 2008 Companies Act is vexatious in the circumstances.

[53] But even were I wrong in that conclusion, it is also clear that there is no merit in Woollam’s demand to have the second to fifth respondents declared as delinquent persons at the instance of the company.  As mentioned, to succeed in showing that the company had the makings of a cognisable claim to declarations of delinquency against its directors Woollam would have to qualify the complaints against them set out in his demand as falling within the ambit of s 162(5)(c).  To determine whether he has succeeded in doing that, the court has to assess the content of his demand in the context of the evidence adduced in the proceedings in terms of s 165(3) to have it set aside; see Amdocs SA Joint Enterprise (Pty) Ltd v Kwezi Technologies (Pty) Ltd 2014 (5) SA 532 (GJ), at para. 15.  It bears noting, however, that making out a cognisable claim does not require of the complainant to demonstrate in his demand that the claim enjoys good prospects of success. 

[54] At para. 15 of Amdocs SA, GS Myburgh AJ remarked that the ‘applicant bears the onus in this regard and the absence of merit must be clearly shown’ and at para. 17 he added, ‘[t]he threshold which a complainant has to cross is a low one.  Conversely, the onus and burden of persuasion which an applicant for relief in terms of s 165(3) bears is a rather heavy one’.  With respect, I consider that, to an extent, these statements might conduce to the wrong approach. 

[55] It is correct that the onus in an application in terms of s 165(3) is on the company.  The nature of the onus is that which ordinarily applies in civil litigation.  The company must prove on a balance of probability that the demand is frivolous, vexatious or without merit.  ‘Heaviness’ does not enter the equation; there is no presumption in favour of the complainant that its demand is not frivolous, vexatious or without merit, anymore than there is one in favour of the company that it is.  The statutory provisions do not give rise to any inherent probability one way or the other.  It is usually only in situations where there is an inherent probability in favour of, or against, some proposition that the courts pronounce that ‘clear’ evidence is required to displace the effect.  Consider in this regard the observations of Watermeyer JA in Gates v Gates 1939 AD 150, at p. 155:

It is true that in certain cases[,] more especially in those in which charges of criminal or immoral conduct are made, it has repeatedly been said that such charges must be proved by the “clearest” evidence or “clear and satisfactory” evidence or “clear and convincing” evidence, or some similar phrase. There is not, however, in truth any variation in the standard of proof required in such cases. The requirement is still proof sufficient to carry conviction to a reasonable mind, but the reasonable mind is not so easily convinced in such cases because in a civilised community there are moral and legal sanctions against immoral and criminal conduct and consequently probabilities against such conduct are stronger than they are against conduct which is not immoral or criminal.

[56] Similarly, there is no special dispensation in favour of complainants - as the reference to ‘a low threshold’ might suggest - when it comes to considering the cogency of a demand in terms of s 165(2).  I agree with the learned acting judge’s statement (at para. 17) that the court will not expect a demand to necessarily comply with the formal requirements of a pleading, but if it is to withstand a challenge based on an allegation that it is without merit, it will have to make out the basis of a cognisable claim (or defence) by the company in respect of the matter that the complainant would wish to pursue derivatively should the company not do so directly.  Section 165 does not expressly prescribe the requirements a demand must meet, but the implication that it must coherently make out a cognisable case is evident in the provision that the demand constitutes the framework for the (conceivably costly) independent investigation that the company is expected to commission upon its receipt.  The investigation is not intended to ascertain whether a case might be found; it is to investigate the merits of the case alleged by the complainant and the viability of the company pursuing that case. [48]

[57] Turning then to consider the demand.

First ground of complaint

[58] As to the first complaint in Woollam’s demand:  It is common ground that loss of employment insurance was sold to some customers of Lewis Stores (Pty) Ltd who were pensioners or self-employed persons and thus had no insurable interest.  It is also not in dispute that the resulting revenue, which should not have been generated, had been reflected in the applicant’s group consolidated financial statements.  Woollam identified the problem in a paper, entitled Lewis Group – Fact or Fiction, that he circulated to the media and to the applicant’s major shareholders in July 2015.  The report and attendant complaint by Woollam’s company, Summit Financial Partners (Pty) Ltd (‘Summit’), to the National Credit Regulator prompted an investigation by the applicant company, which confirmed the existence of the problem and led to the institution of remedial measures, including the repayment of the premiums together with interest.  Capital repayments in this respect amounted to less than one per cent of the premiums that the company had received over the relevant period.

[59] Woollam is unable to controvert the evidence that the applicant has adduced on oath by one of its directors - whose fitness to hold the office he has not sought to impugn - that this has happened because of erroneous data capturing by personnel in the shops where the transactions concerned were processed.  If the data had been correctly captured, the computer program used for the processing of the proposals for insurance would automatically have excluded their acceptance. Consequent upon the identification of the problem, the applicant has, according to the deponent to the founding affidavit, commissioned improvements to its information technology system and put in place measures to enhance staff training.  It has also established a call centre that interviews applicants for credit and verifies the particulars about them captured on the electronic data base.

[60] Whether the applicant or its subsidiary should be sanctioned for what has happened is a question that has been under consideration by the relevant statutory authorities in terms of the National Credit Act 34 of 2005.  Woollam is critical of the content of the response given by the third respondent, who is an executive director of Lewis Stores (Pty) Ltd, in the answering affidavit before the National Credit Tribunal.  He says it concentrated on technical reasons why the Tribunal should not consider the complaint, rather than giving answers to questions such as whether the employees concerned in the transactions had been identified and disciplined, and how much of the amount falling to be repaid to customers had been settled.  He was equally critical of the failure of the second, fourth and fifth respondents to furnish that information.  There is no suggestion that regulator has considered proceedings against any of the applicant’s directors.  It was the subsidiary company - and not any of the applicant’s directors – that was referred by the National Credit Regulator to the National Credit Tribunal.

[61] Most pertinently, there is nothing in the body of Woollam’s demand, or the evidence before court in the current proceedings to connect any of the four directors singled out in the demand with the incidents of insurance being sold by the subsidiary company to persons who did not qualify for it.  The fourth and fifth respondents are not even directors of Lewis Stores (Pty) Ltd.  Woollam’s demand does not make out a prima facie case of dishonest or grossly negligent conduct by the directors concerned.  It does not show that any of them was guilty of wilful misconduct.  On the contrary, the evidence shows that upon being alerted to the issue, the applicant’s board acted quickly and responsibly to address it.  Pertinently, there is nothing in the demand to explain why certain non-executive directors on the applicant’s board have been targeted in the demand, and the others not.  On its face that is indicative of vexatiousness, but I do not find it necessary to make a determination in that regard.

[62] In short, Woollam has not qualified his complaint against the second to fifth respondents as falling within the categories of conduct described in s 162(5)(c) of the 2008 Companies Act.[49]  That means it is without merit.

Second ground of complaint

[63] It is not in dispute that in the majority of transactions concluded by Lewis Stores (Pty) Ltd the customer purchases an extended product warranty.  The applicant has adduced evidence that this is not compulsory, however.  This is borne out by the evidence, which Woollam has not been able to controvert, that the extended product warranty has not been purchased in more than a quarter of the millions of transactions concluded by the company.  Woollam contends that the practice of selling the extended product warranty is unconscionable in many cases because the manufacturer in any event often provides a product warranty that extends for longer than the standard one-year warranty that Lewis Stores stipulates must be provided by all its suppliers.  The applicant has countered that the extended warranty operates from the expiry of the warranty provided by the supplier.

[64] Woollam’s complaint is that the Lewis Stores (Pty) Ltd’s conduct in respect of the sale of extended product warranties contravenes s 102 of the National Credit Act.  Despite the attention drawn to it, this issue does not, however, appear to have been referred to the National Credit Tribunal by the National Credit Regulator.

[65] For the purposes of the present matter no more need be said than that none of the matters raised in Woollam’s second ground of complaint implicates conduct by any of the directors falling within the scope of s 162(5)(c) of the 2008 Companies Act.  His allegations do not merit an investigation by the company into the question whether it should apply for declarations of delinquency against the second to fifth respondents.

Third Ground of complaint

[66] It is common ground that Lewis Stores (Pty) Ltd charges first-time purchasers on credit a delivery (or ‘handling’) fee, even in respect of goods in respect of which delivery would not ordinarily be required because the goods are of a type that could easily be carried out of the store by the customer.  The evidence adduced by the applicant is that this is done because it is considered necessary to confirm the physical address given by the first-time credit customer.  Having regard to the notice-to-consumer requirements imposed on credit providers in terms of the National Credit Act before they are able to prosecute enforcement proceedings in the event of default, the concern of Lewis Stores (Pty) Ltd to verify the addresses of its credit customers is understandable.  Whether its means of doing so entails making a prohibited charge within the meaning of s 100 of the National Credit Act, as alleged by Woollam in his demand, does not fall for determination in these proceedings.  The matter was referred by Woollam’s company, Summit, to the National Credit Regulator, which reportedly has not seen fit to refer the practice to the National Credit Tribunal.  It suffices for present purposes to hold that even if it did, that would not make out a case of fraud against the subsidiary company.  Even less, would it follow that the four directors of the holding company singled out by Woollam for the purposes of proceedings in terms of s 162 of the 2008 Companies Act were thereby guilty of the sort of conduct referred to in s 162(5)(c) of that Act.

Fourth ground of complaint

[67] It will be recalled that the fourth ground of complaint stated in Woollam’s demand was that the company’s accounts had for many years appeared to overstate revenue from the sale of credit protection insurance policies.  I do not find it necessary for present purposes to provide the detail of Woollam’s complaint in this respect.  Suffice it to say that it arose from the accounting implications of the manner in which the Lewis Group had responded to the introduction of the requirement in terms of the National Credit Act that credit protection insurance policies must provide for the monthly payment of premiums by credit receivers.  Prior to the commencement of the Act, Lewis had debited the customer’s account upfront for the insurance cover for the entire executory period of the instalment transaction, and capitalised the one-off premium as part of the principal debt.  Lewis’s response to the requirement introduced by s 106(4)(b) of the National Credit Act had been to structure the financial aspects of the group’s credit protection insurance business through a system of inter-company transactions between Lewis Stores and Monarch Insurance. 

[68] Woollam described the structure of the inter-company transactions as follows in the first of his aforementioned reports, written on 22 June 2015:

§  Lewis Stores pays a single upfront “premium” to Monarch Insurance on behalf of the customer on day 1 of the transaction, without the explicit knowledge or approval of the customer.  It records this transaction in the books of Lewis Stores in an “Insurance Prepaid Suspense A/C”, since it could not charge this premium to the actual debtor’s account.  Monarch Insurance would record this as a premium received.

§  Monarch Insurance then pays Lewis Stores a broker commission of 20% on this single insurance premium, which is recorded as an expense in Monarch and income in Lewis Stores.  Monarch also pays Lewis Stores a binder fee of a further 25% of the premiums received as compensation for administering the policy.

§  Monarch reinsures 40% of the policy risks with Constantia Insurance Company Ltd. under a proportional reinsurance treaty and pays 40% of the premiums received from Lewis Stores to the reinsurer.

§  The reinsurer pays Monarch a commission on these premiums of 35%.

§  In terms of the reinsurance treaty, the reinsurer pays a “profit commission” on the balance of the premiums received after deducting proportional claims paid and a small margin (estimated to be around 2,5%).  Monarch records this “profit commission” as income in its books.

§  Monarch creates an unearned premium reserve and it would appear that this reserve is based on the net premiums received from Lewis Stores net of reinsurance.

§  Lewis Stores then collects the monthly premiums from the customer and credits the Insurance Prepaid Suspense A/C.

Woollam directed a number of criticisms at this business arrangement, including at what he considered to be its commercial and tax inefficiency.  For present purposes the essence of his complaint was that the practice resulted in the recognition of a portion of the profits earned on the premiums upfront rather than evenly over the period that the customer paid them

[69] Woollam raised this issue with the third respondent and in the two reports he wrote, titled Lewis Group – Fact or Fiction? and Lewis Group – The Emperor’s New Clothes, and made available to the investing public in the lead-up to the applicant’s annual general meeting in August 2015.  (Woollam actually purchased his first few shares in the applicant company on 26 June 2015 after he had written the first of his aforementioned reports, dated 22 June 2015.) 

[70] The applicant responded to the first report, which appeared to impact adversely on the applicant’s share price, in a SENS statement issued on 7 August 2015.  The statement assured investors that the directors were satisfied that the consolidated financial statements of the group fairly represented the group’s financial position and performance and had been prepared in compliance with the International Financial Reporting Standards, as required by the Companies Act.  The relevant part of the SENS statement went as follows:

Following consideration of allegations regarding certain of the group’s accounting treatments, particularly re-insurance profit commission and ancillary services, the directors are of the view that the consolidated financial statements present fairly in all material respects, the consolidated financial position and performance of the Lewis Group in accordance with International Financial Reporting Standards (“IFRS”).

The consolidated financial statements of Lewis Group Ltd. in respect of the 2015 financial year have been audited by PricewaterhouseCoopers Inc., the group’s auditors, who have expressed an opinion that the consolidated financial statements present fairly, in all material respects, the consolidated financial position of Lewis Group Ltd. as at 31 March 2015 and its consolidated financial performance for the year then ended in accordance with IFRS and the requirements of the Companies Act of South Africa.

These audited financial statements have not been amended subsequent to the aforementioned allegations being made.

[71] Woollam wrote the second of his aforementioned reports, dated 9 August 2015, in response to the publication of the SENS statement.  In it, amongst other things, he set out 11 questions that he indicated he intended to pose about credit protection insurance at the upcoming annual general meeting.

[72] The SENS statement was issued after the applicant’s board of directors had specially considered Woollam’s allegations and sought advice from the company’s external auditors, PricewaterhouseCoopers (‘PwC’).  It went further and obtained confirmation of the advice that it had been given from PwC’s technical committee.  It was on the basis of the professional advice that the board had obtained that the financial statements were submitted to the company’s annual general meeting on 14 August 2015.

[73] Nevertheless, after the annual general meeting, which Woollam attended and at which he vocally persisted with his criticisms, the applicant’s board appointed a sub-committee charged with reviewing the company’s accounting policies.  The review was undertaken in conjunction with PwC.  Certain flaws were identified and remedial revisions to the company’s accounting policies were implemented.  This gave rise to the restatement of certain aspects of the company’s 2015 results and those of preceding years.  These were reported as part of the unaudited half year results published on 9 November 2015.  The effect of the adjustments was that the company’s reported earnings per share for the year ended 31 March 2015 were reduced from 944.8c per share to 907.5c per share and headline earnings per share from 882.7c per share to 845.3c per share.

[74] The Johannesburg Securities Exchange enquired into the circumstances of the adjustment of the group’s results and appears to have been satisfied with the explanations provided by the applicant.

[75] The revisions to the applicant’s accounting policies in a sense vindicated some of the concerns voiced by Woollam in the reports he published before the annual general meeting and at the meeting itself, although the effect on the restated figures was of a much lesser extent than he had propounded .  That the board defended itself against Woollam’s allegations at the annual general meeting, whilst subsequently effectively conceding that he had in fact been making some valid points, does not, however, make out a case for delinquency. 

[76] The unrebutted evidence is that the board’s position - articulated at the meeting by the fourth respondent in his capacity as non-executive chairman - was premised on advice specially obtained for the purpose from the company’s external auditors.  It bears emphasis in this connection that the 2008 Companies Act expressly contemplates that directors are entitled to rely in good faith on any information, opinions, recommendations, reports or statements, including financial statements and other financial data, prepared or presented by qualified employees of the company and legal counsel, accountants, or other professional persons retained by the company, the board or a committee as to matters involving skills or expertise that the directors reasonably believe are matters within the particular person’s professional or expert competence.[50]  Indeed, I would find it surprising if non-executive directors of a public company carrying on business on the scale that the applicant’s subsidiary operating companies do would find it possible to discharge their duties other than with material reliance on such inputs and advice.

[77] That the board should, after the annual general meeting, have commissioned a special investigation into the appropriateness of the company’s accounting policies, adopted its recommendations and consequently published adjusted financial results is completely irreconcilable with fraudulent or grossly negligent behaviour on the directors’ part.

Fifth ground of complaint

[78] Woollam’s fifth ground of complaint was related to a matter he raised with the third respondent at the annual general meeting.  It related to his allegation that the company had inappropriate revenue recognition policies with regard to extended product warranties, which resulted in the on-going overstatement of reported revenue.

[79] Woollam had asked whether the income generated from the sale of extended product warranties was amortised to the group’s income statement from the date of sale or from the date of expiry of the manufacturer’s warranty.  The third respondent informed him that it was the latter.  When the third respondent gave the answer at the meeting he had sought and received confirmation from the PwC audit partner who was present that he was answering correctly.  The answer was, however, subsequently discovered to have been incorrect, and the true position was made apparent when the adjusted results were published in November 2015.  Indeed, one of the changes in accounting policy instituted after the aforementioned review was to amortise the income from the date of the expiry of the manufacturer’s warranty instead of from the date of sale of the dealer’s extended warranty.  The effect was to slightly reduce the group’s reported income for the periods in question.  The reduction in reported income did not, however, have a material effect on the company’s financial position as reported at the meeting.

[80] Woollam has accused the third respondent and the unnamed partner of PwC who supported him at the meeting of lying.  The allegation has been denied.  It was explained that the incorrect answer was given in error.  The probabilities support the truth of the denial.  The third respondent would have nothing to gain by deliberately giving an incorrect answer.  His action in seeking confirmation from the PwC partner suggests that he was not absolutely certain of the correctness of the answer when he gave it.  In my view that would have been apparent to anyone present at the meeting.

[81] The mistake was unfortunate, especially emanating, as it did, from the financial director of Lewis Stores (Pty) Ltd.  But making it fell far short of the serious misconduct or dereliction of duty required to qualify Woollam’s complaint in terms of s 162(5)(c) of the Act.

Sixth ground of complaint

[82] Woollam’s demand did not expand on the sixth ground of complaint as worded in paragraph [4], above.  It is thus not apparent to what extent, if any, it added to what has already been treated of under his fourth and fifth grounds of complaint.

Conclusion

[83] In the result Woollam’s demand failed to demonstrate that the company had the makings of a cognisable case for the relief that he insisted the company should pursue against the second to fifth respondents.

Absence of good faith

[84] The applicant has alleged that Woollam’s resort to s 165 of the 2008 Companies Act was motivated by a collateral purpose and is not in good faith.  It contends on this basis too that the demand is vexatious.  The applicant relies in this connection on the fact that in the period from 2013 Woollam has taken short positions in Lewis Group shares and also on his acquisition of an insignificant holding in the shares only after he had caused Summit to report the company to the National Credit Regulator and published his first paper.  Woollam’s acquisition of the shares had therefore occurred in circumstances in which he might expect the share price to go down and was therefore not a genuine investment, but merely a means to further his collateral purpose.

[85] Simply put, taking a short position in stock is an investment strategy whereby the investor ‘borrows’ shares from a holder thereof, normally at an agreed fee, and sells them into the market at a time when he expects the price to drop.  The investor then purchases an equivalent number of shares at the lower price to which they have fallen to be able to return them to the ‘lender’ (usually a brokerage firm).  His profit is the difference between the price at which he sold the shares and that at which he purchased replacements to return to the ‘lender’, less, of course, the costs of the transactions. 

[86] The bad publicity given to the applicant company as a result of Woollam’s actions had a demonstrably adverse effect on its share price.  The applicant alleges that Woollam’s conduct was directed at engineering movements in the share price to benefit his short-selling activities.  The applicant regards the demand as yet another device in Woollam’s allegedly self-serving activities.  It has alleged that Woollam’s acquisition of a relatively infinitesimal number of shares in the company[51] – his business partner in Summit has acquired a single share – was opportunistic and undertaken only to enable him to initiate proceedings in terms of s 165.  It argues that Woollam has no genuine interest in the protection of the company’s legal interests and that his initiation of proceedings in terms of s 165 is not in good faith.

[87] Woollam admits having held short positions on the applicant’s securities at various times, but has declined the invitation issued to him in the applicant’s founding affidavit to make a full disclosure of his trading activities in this regard.  Woollam maintains that there was nothing out of the ordinary about his short-selling of shares in the Lewis Group as they are allegedly one of the most widely short-traded stocks in the market.  It is noteworthy, however, that Woollam failed to disclose his short-trading activities when involved in publicising his adverse opinions on the applicant’s business activities.  That does seem to me to raise an ethical question.  I understand that the question forms part of the matters concerning Woollam’s alleged conduct that has been referred by the applicant to the Financial Services Board for investigation.  For the reasons given below I not find it necessary to determine the question in these proceedings.

[88] Woollam would have to satisfy the court that he was acting in good faith were he subsequently to apply in terms of s 165(5) for leave to proceed derivatively.[52]  The questions concerning his conduct raised by the applicant would certainly be germane in that connection.  And, in addressing them, Woollam would bear the onus of proof. 

[89] I understood the first respondent’s counsel to have submitted that issues concerning good faith were not relevant at this stage because the process in terms of s 165(5) was wholly discrete from that in terms of s 165(3) with which the current proceedings are concerned.  To the extent that it purported to state a general proposition, I would be hesitant to accept that argument.  The purpose of an application by the company in terms of s 165(3) is to pre-empt the multi-stage process that can follow when a person signals their intention to proceed derivatively by serving a demand.  That a company might have an interest in doing so could arise from the prejudicial consequences of the publicity that might attend the more drawn out process, not to mention the expense and inconvenience of an independent investigation in terms of s 165(4).  While the focus in any enquiry into whether the demand is without merit will be on whether a prima facie case has been made out for the company to pursue, matters that might be pertinent to demonstrating that it is frivolous or vexatious within the meaning of s 165(3) could overlap with those that would relevant to any enquiry into good faith and the best interests of the company in terms of s 165(5).

[90] Nevertheless, it is clear that the arguments that the applicant’s counsel advanced on the bases that the demand should be set aside because Woollam was acting for an ulterior motive and because he had acquired his nominal holding in the applicant company with prior knowledge of the matters that are the subject matter of his demand fall more appropriately for consideration in the enquiry that is enjoined in any application that Woollam might bring in terms of s 165(5) of the Act.  Indeed, the Australian authority[53] with which Mr Hodes SC supported this leg of the argument for the applicant was concerned with applications in terms of s 237 of the Australian Corporations Act, 2001, which is the equivalent of s 165(5) of the 2008 Companies Act.

[91] The demand procedure, and the attendant opportunity given to the company to have the demand set aside, do not feature in the statutory regimes that regulate the bringing of derivative proceedings in Australia, the United Kingdom, New Zealand or Canada.  The local provision seems to be a carry-over in modified form of an aspect of the regime that used to apply in terms of s 266 of the 1973 Companies Act.  The provisions of s 165(3) of the 2008 Companies Act afford the company essentially the same basis for warding off derivative proceedings at an early stage as it used to enjoy when opposing an application brought by a shareholder in terms of s 266(3) of the 1973 Act. 

[92] Logically, one would have expected that a company could oppose the initiation of the process to commence derivative proceedings, not only on the grounds provided in terms of s 165(3), but also on the basis of showing, if were able to, that the intending litigant would not be able to satisfy all of the requirements of s 165(5).  The provisions of s 165(3), which expressly and emphatically limit the bases upon which a company can have a demand set aside, appear to have been inspired by the jurisprudence in respect of s 266(3) of the 1973 Act, in which it was held that an application for the appointment of a provisional curator ad litem to investigate a demand made in terms of s 266(2) would be refused if the company showed that the demand was without merit, or frivolous and vexatious; see Van Zyl v Loucol (Pty) Ltd 1985 (2) SA 680 (NC), at 685G-I, and Thurgood v Dirk Kruger Traders (Pty) Ltd 1990 (2) SA 44 (E), at 49H-50.  The anomaly that a company will often be unable in an application in terms of s 165(3) to see off derivative proceedings on the basis that the complainant will not be able to satisfy the requirements of s 165(5) appears to be the result of an awkward cobbling together in s 165 of the 2008 Companies Act of various concepts and procedures lifted from quite disparate preceding local and foreign legislation.

Application by the first respondent to introduce fourth set affidavit

[93] Lastly, it remains to provide reasons for the orders I made on 29 August 2016 admitting certain parts of an affidavit by Woollam deposed to on 22 August 2016.  The first respondent had made application for the admission of the deposition as a fourth set affidavit.  The application was opposed by the company.  I indicated that reasons for the orders would be provided in this judgment.

[94] The affidavit was directed at two issues.  Firstly, it sought to supplement the demand by introducing an additional ground; and secondly, it set out Woollam’s answers to new matter in the applicant’s replying papers.  I considered it just and appropriate to admit those parts of the affidavit that constituted an answer to the new matter. As for the rest, I was of view that the applicant’s objection was well made that it was not within the statutory scheme that additional grounds for a demand be introduced in medias res in a pending application in terms of s 165(3), and that the company was entitled to fifteen days’ notice to consider the newly added ground of demand and, if so advised, to within that time bring separate proceedings to have what amounted to a fresh demand set aside.  It has subsequently been brought to my notice by the parties that such separate proceedings have indeed been instituted.

[95] Mr Katz SC, who argued the application for the first respondent, submitted that the affidavit should be admitted and the proceedings postponed to enable the applicant to respond to the additional matter.  I was not persuaded to exercise my discretion in favour of that course.  The matter had had a rather drawn out run-up to a hearing and the first respondent had failed to comply with the timetable provided in an order taken by agreement between the parties from Magona AJ on 15 June 2016.  This weighed against the grant of any indulgence.  The papers were relatively voluminous and the applicant had incurred the expense of preparing for a hearing on 29 August 2016.  It was anxious to obtain a determination of its extant application.

Costs

[96] A preliminary hearing was arranged to take place on 18 August 2016.  The purpose was to dispose of an application by the first respondent to strike out the applicant’s replying affidavit in its entirety.  At a late stage the first respondent indicated that he was abandoning that application and electing to apply instead for the admission of the aforementioned fourth set affidavit.  The first respondent will be ordered to pay the applicant’s costs in the striking out application, including the wasted costs in respect of the reservation of 18 August 2016 for the purposes of the hearing of the application, such costs to include the costs of two counsel.

[97] The first respondent achieved partial success in its application for the admission of his fourth set affidavit.  The issue that was primarily in contention in that application, however, was whether the first respondent could introduce an additional ground for his statutory demand.  On that issue he was unsuccessful.  He was nevertheless entitled to have a further affidavit admitted owing to the new matter contained in the applicant’s replying affidavit.  I have decided that fairness will be served if each party has to bear its own costs in respect of the application for the admission of the fourth set affidavit.  (For the information of the taxing master it is recorded that proceedings on 29 August 2016 were taken up until 14h45 with this interlocutory application.)

[98] The applicant has been successful in its application to set aside the demand, dated 20 May 2016 and there is no reason why costs should not follow the result.  The applicant sought costs against the first respondent on a punitive scale on account of what it alleged had been the first respondent’s lack of good faith.  For the reasons given above I have found it inappropriate to determine that aspect of the matter in these proceedings and accordingly the costs will be allowed on the scale as between party and party.

Orders

[99] The following orders are made:

(a)        The demand, dated 20 May 2016, served on the applicant by the first respondent in terms of s 165(2) of the Companies Act 71 of 2008 is hereby set aside in terms of s 165(3) of the said Act.

(b)        The first respondent is ordered to pay the applicant’s costs of suit in the application in terms of s 165(3) of the Act, including the costs attendant on the application to strike out the applicant’s replying affidavit that was set down for hearing on 18 August 2016.  The costs so awarded shall include the costs of two counsel.

(c)        The applicant and the first respondent shall bear their own costs in respect of the application by the first respondent for the admission of his affidavit deposed to on 22 August 2016.

A.G. BINNS-WARD

Judge of the High Court

APPEARANCES

 

Applicant’s counsel:                          P.B. Hodes SC

                                                            D. Goldberg

Applicant’s attorneys:                       Edward Nathan Sonnenbergs

                                                            Cape Town

 

First Respondent’s counsel:             A. Katz SC

                                                            H.N. De Wet

                                                            D. Lubbe

First Respondent’s attorneys:          Marcusse Law Firm

                                                            Observatory

                                                            Cape Town

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