The Companies Act of 1973 provides in section 228 that in order for a company to dispose of the whole or greater part of its assets, it must obtain the consent of its shareholders in the form of a special resolution. Prior to amendments to this section, effective from 1st December 2007, an ordinary resolution was required.

Section 228 has provided some debate in the context of companies which have a property as their major or sole asset, when the company decides to register a mortgage bond over its property. The question has been whether it is necessary for the shareholders of such a company to consent to the registration of the mortgage bond by resolution. In other words does the decision to hypothecate the property constitute a disposal of all or the greater part of the company's assets, due to the risk of a forced sale in execution?

The recent judgment by acting judge Owen Rogers in the Western Cape High Court provides a compelling argument in favour of the fact that the registration of a mortgage bond does not constitute a disposal of assets in the context of section 228.

The case concerned an application by Standard Bank to have a property, which was the subject of four mortgage bonds in its favour, declared executable. The property was the sole asset of the defendant company, Hunkydory Investments 188 (Pty) Ltd. A defence raised by Hunkydory was that no resolution had been passed by its shareholders authorising the registration of the bonds, and therefore, in accordance with section 228, the mortgage bonds were not binding on it.

The judge canvassed various arguments in making his finding that the meaning of the phrase ‘dispose of' in the context of section 228 could not be so widely interpreted as to include the passing of a mortgage bond over the property.

The judge found that the registration of a mortgage bond is not a transaction which could ordinarily be described as a disposal of the property, to the creditor or anyone else. More accurately, the ordinary meaning of disposal denotes a transfer of ownership.

In addition, the transaction itself does not have the sale, or the transfer of ownership of the property, as its object, and in passing a bond over its property, the debtor company does not have the intention to sell it. On the contrary, it is the debtor company's intention to obtain a loan and to repay the loan, for which it provides security in the form of the mortgage bond.

If, however, the property is sold in execution upon the default of the debtor company, the debtor itself is not even a party to the transaction - it is the sheriff who disposes of the property, not the debtor.

The judge did not accept the argument that prohibition on alienation is also a prohibition on hypothecation in the context of mortgage bonds. While he accepted that this may be the case in other scenarios, for example, where in order to create a pledge of assets the assets are to be transferred into the name of the creditor, the scenario contemplated in the registration of a mortgage bond is distinguishable.

The judge emphasised that section 228 regulates the disposal of a company's assets by its directors, and must thus be seen in the context of the management duties of directors. While the Companies Act does not restrict the directors from borrowing money for use in the business, as an act of management, such a restriction may be placed in the company's Articles of Association. It is also conceivable that the shareholders may wish to restrict the directors from engaging in conduct which is too far removed from acts of management, such as the sale of the business or the assets of the company to a third party, without shareholder approval. This, then, found the judge, was the mischief which section 228 sought to restrain.

The judge also noted that even without a mortgage bond a property may still be sold in execution for a judgment debt that is not secured. This makes it clear that it is the loan and not the mortgage bond per se which exposes the property to the risk of forced disposal. The judge stated that, "nobody could with accuracy say that the borrowing... [of money] is the first step towards disposal by a company of the greater part of its assets." In short, the potential for forced disposal did not form part of the meaning of "disposal" in section 228.

The case could be the subject of a future appeal. However, the judge's compelling arguments cannot be ignored and certainly provide highly persuasive authority at this stage.

By: Lisa Koch, Candidate Attorney at Deneys Reitz