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Parables of Survival: Lessons from the Nova Sharemax Debacle

Things for debentureholders of Nova Property Group (the Sharemax rescue vehicle) look bleak.

At last week’s meeting of bondholders, Chair Connie Myburgh, architect of the bailout, was far from being celebrated as primus inter pares. The “hard questions” relating to large-scale realizations remain unanswered. So much so that the bond notes could be worthless.

Nova Debentureholders are not alone. It’s getting worse. Thousands of creditors find themselves in a sticky mess every year when dealing with insolvency practitioners.

Optimistic assumptions and seductive promises of recovery are consistently insufficient. The reason: Practitioners make spontaneous decisions that yield the best possible outcome to feed their greed. To counter, it is essential to focus on combat-ready debtor collection strategies.

Vital Statistics

In South Africa, one in six companies is currently affected by a company rescue or liquidation procedure. A quick look at private sector debt shows that the construction sector averages a debt-to-equity ratio of 3.3. It’s sad, compared to its American counterpart, which has an average ratio of 1.09.

Statistics from the Business and Intellectual Property Commission (in its report on the status of business rescue proceedings here) show that this figure could validate our quasi-economic spring, but it does not explain the record of 510,000 new companies registered in 2020-2021. CPIC commissioner, lawyer Rory Voller, attributes this phenomenon to “economic necessity”. He explains that people try to generate income in the informal sector in times of crisis.

Although industry experts partially agree with him, the big picture is oddly clever. Business owners tend to create new businesses as back-up plans if current business debt becomes unusable: an enthusiastic strategy to raise the phoenix from the ashes.

Competing creditors bear the brunt

South African companies trade under the umbrella of trust. At its heart is a ratchet mechanism that compels parties to honor their verbal commitments. It seems unwise to assume fair play within this trust machine. Therefore, most claims will fall into the concurrent level when an insolvency event occurs. What comes next is the hardest part: getting your claim back at the end of the queue.

Insolvency legislation prioritizes various claims against an insolvent estate: a titanic struggle for survival between classes of creditors. The proceeds of the encumbered assets are allocated to the payment of the secured debts. The free residue is pooled to pay the remaining creditors. Experience suggests that the latter is only theoretical. As the number of years passes to liquidate an estate, there will not be much left to pay creditors.

The price of recovery

Time, resources and scope are fundamental constraints for a project. Taking into account these three constraints, calculate the value of the predefined objectives. The research claims that competing creditors can expect a 5% recovery rate from liquidations.

Business rescue offers two alternative goals with different challenges: restructuring the affairs of a business to continue to exist, or an outcome that results in a better return than liquidation. Creditors need to be convinced because the proposals are served with a bitter pill: compromised competing claims. A cascade of six to ten cents in the rand, to be precise.

Hook, hug, hug

When the debt cycle turns around, asset prices and the real economy will be shocked. Flaws are inevitable. Business owners can derive their optimism from a foolproof strategy: taking safety against exposure. The concept is for a debtor to transfer incorporeal rights to a creditor guaranteeing repayment of the principal of the debt.

A study by the University of Pretoria found that secured creditors are 95% more likely to collect a debt in a corporate rescue or liquidation plan than competing creditors. There are several types of security available to business owners. Examples include pledges, assignments and general notarial obligations.

Securing your exposure improves your arsenal and moves you towards surrender.

victims of insolvency

Competing creditors’ options are limited. Given these poor statistics, any “project” aimed at recovery must be economically viable. Observation and communication can also be helpful.

Bank collection departments employ seasoned professionals. Because so many competing interests are at stake, bankers will try to unravel the mess of debt to gauge the outcome. Competing creditors determined to collect their claims should engage bankers at statutory meetings. Or at least listen to what they have to say.

Until the chickens come home to roost, liquidators and dodgy corporate salvage practitioners will continue to systematically loot properties. Be vigilant: the holes in these practices are obvious. A quick Google search of the practitioner may reveal dirty escapades.

Alas…
First lesson of the Nova Sharemax case: better management of debtors. It will ultimately act as a lifeline in case the debtor defaults. Business owners need to be diligent when managing risk in a negative economic outlook.