Mthokozisi Maphumulo | Partner | Litigation Attorney | Insurance & Financial Sector Laws | Adams and Adams | mail me |
A September 2026 High Court judgment has reaffirmed and applied the statutory framework for holding company directors personally liable for reckless trading and conduct calculated to defraud creditors.
The matter concerned a plaintiff, a private company that markets and sells process control instrumentation. The plaintiff had appointed the third defendant as a non-exclusive distributor of its products. The first defendant served at all material times as a director and principal managing officer of the third defendant. The second defendant also served as a director throughout the relevant period.
The third defendant purchased the plaintiff’s products on credit and resold them to end-users in the mining sector. Over time, it accumulated substantial arrears. Despite acknowledging its inability to service its debts, it continued to place purchase orders. This ultimately generated 59 unpaid invoices totalling R2,832,601.73 between December 2019 and April 2021.
The third defendant voluntarily entered liquidation through a special resolution in August 2021. Its assets fell far short of its liabilities. The plaintiff subsequently sought to hold the first and second defendants personally liable for the full outstanding debt. It relied on the statutory mechanisms for director liability under the Companies Act 71 of 2008 and, alternatively, the Companies Act 61 of 1973.
This judgment adds to the growing body of important Directors and officers (D&O) jurisprudence in South Africa. It also carries significant implications for D&O insurance providers. These implications are particularly relevant to claims arising from reckless trading, conduct calculated to defraud creditors and the personal exposure of directors who remain passive despite known insolvency. The judgment therefore highlights the importance of understanding the reckless trading risk within corporate governance and D&O insurance.
Main issues for determination
The court had to determine whether the third defendant had carried on its business recklessly, in contravention of section 22(1) of the Companies Act 71 of 2008. It also had to establish whether the first and second defendants, as directors, knowingly participated in that conduct.
Furthermore, the court had to consider whether either or both defendants knowingly participated in conduct by the third defendant that was calculated to defraud the plaintiff as a creditor. Such conduct would contravene section 214(1)(c) of the Companies Act. If the court established these contraventions, it needed to assess whether civil liability arose under section 218(2) of the Companies Act.
Alternatively, the court had to determine whether the defendants were personally liable under section 424(1) of the Companies Act 61 of 1973. Schedule 5 of the Companies Act preserves this provision for companies wound up under the old regime.
Finally, if the court established personal liability, it had to assess whether the amount extended to the full sum of R2 832 601,73, together with interest.
Findings and reasons
The court began its analysis by setting out the applicable legal principles. Section 22(1) of the Companies Act prohibits a company from carrying on its business recklessly, with gross negligence, with intent to defraud or for any fraudulent purpose. However, the prohibition targets the company as a legal entity. It does not, in its own right, create personal liability for directors.
Drawing on the Rabinowitz case, the court confirmed that the test for recklessness is objective. A company trades recklessly when, in the opinion of a reasonable businessman standing in the directors’ shoes, there is no reasonable prospect of creditors receiving payment when due.
Section 22 serves as the predicate condition for the offence created by section 214(1)(c). Relying on the Ozinsky and Philotex cases, the court confirmed that this offence does not require proof of every element of common-law fraud. Instead, it requires knowledge and participation in conduct with the objective tendency to cause financial prejudice to a creditor.
Importantly, civil liability under section 218(2) arises when a party commits the section 214(1)(c) offence. This creates a lex specialis (law governing a specific subject matter) right of recovery. Consequently, the plaintiff does not need to prove the common-law elements of delict independently.
Turning to the facts, the court found that the third defendant had conducted its business recklessly from December 2019 to August 2021. It characterised the evidence as “compelling and overwhelming” and “a textbook example of a company incurring debts with no reasonable prospect of repayment”.
The first defendant had actual, direct knowledge of the third defendant’s financial difficulties from at least November 2019. At that time, he personally signed a payment plan acknowledging accumulated debt of approximately R6,521,341.
Despite this knowledge, the third defendant continued placing purchase orders on 30-day credit terms. It placed 59 further orders, generating the full amount of the claim. The anticipated funding never materialised, and the company made no payments on the invoices issued after November 2019.
The court found the first defendant liable under section 214(1)(c) on two grounds.
First, the company retained client payments that it had already received for the plaintiff’s products. It also continued ordering on credit without remitting the funds it had collected. The court found that this conduct was calculated to defraud the plaintiff as a creditor.
Second, the company preferentially repaid director loans from its business account. It did so without board resolutions or written loan agreements, as section 45 of the Companies Act requires. Meanwhile, the plaintiff’s invoices remained entirely unpaid. The court found that this amounted to a knowing and unsanctioned preference of the director’s interests over those of the principal trade creditor.
An unexplained R450,000 transfer from the company’s business account provided further support for this finding. The company made this transfer five days before the first defendant purportedly withdrew from the distribution agreement. These findings demonstrate how the reckless trading risk can extend beyond accumulating unpaid invoices to include the diversion and preferential allocation of company funds.
The court rejected the first defendant’s principal defence. He argued that the plaintiff’s appointment of a new competing channel partner had caused the third defendant’s failure.
However, the court noted that the distribution agreement contained a non-exclusivity clause. This clause expressly permitted the plaintiff to appoint other distributors. Furthermore, the debt had accumulated for 18 months before any issue involving a competing distributor arose. The first defendant’s own written admissions also acknowledged financial distress before the plaintiff announced any new distributor.
The court likewise dismissed the COVID-19 defence. The reckless trading pattern had already emerged in December 2019, before the pandemic reached South Africa.
Regarding the second defendant, the court drew an adverse inference from her failure to testify without explanation. It applied the principle established in the Stellenbosch Farmers’ Winery case.
As a co-director and co-owner within a closely held, two-person directorial structure, the court found that she was in a position to know about the company’s financial affairs. It further found that she had knowingly acquiesced in the reckless trading.
However, the court exercised appropriate caution and declined to make a section 214(1)(c) finding against her. It held that the specific acts of conduct calculated to defraud were primarily attributable to the first defendant. Accordingly, it grounded her liability solely on section 22, read with section 218(2) of the Companies Act.
Both defendants were found jointly and severally liable for R2,832,601.73.
In conclusion
This judgment holds particular relevance for D&O insurance providers for several reasons.
First, it demonstrates that sections 22, 214(1)(c) and 218(2) of the Companies Act provide creditors with a potent mechanism to pursue directors personally. This mechanism does not require proof of common-law fraud. Instead, it creates liability upon the commission of the statutory contravention alone.
Second, the case illustrates that courts can establish the threshold for “conduct calculated to defraud” through patterns of trading behaviour. Examples include retaining client payments while continuing to order on credit, or preferring director loan repayments over trade creditors. Courts therefore need not rely solely on discrete acts of dishonesty.
Third, the differentiated treatment of the two defendants offers equally important lessons. Even a director who does not personally participate in specific fraudulent conduct may face personal liability for reckless trading. This can arise from knowing acquiescence, particularly in closely held companies where a court may draw an adverse inference from a failure to testify.
For D&O insurance providers, these findings reinforce the need to assess the reckless trading risk carefully. Insurers should consider directors’ knowledge of financial distress, their involvement in financial decisions and their response to mounting creditor obligations. The judgment also highlights the potential personal exposure of directors who remain passive when a company continues trading without a reasonable prospect of meeting its debts.
