Introduction
The current financial tribulations experienced by market leaders such
as Nakumatt and Kenya Airways reveal a disturbing trend for employees,
lenders, and the suppliers of goods or services. Failing businesses are
increasingly flouting reporting and management rules and norms, leaving
creditors in the unfortunate situation of pursuing payments for goods
already delivered or services rendered from the crumbling businesses.
In light of the above, what options are available to creditors to recover monies already owed to them?
(a) Exercising remedies of a secured creditor
Where the defaulting debtor has provided security against the debt
owed, a secured creditor has several options available to it under the
law. Most types of security include the inherent power to take
possession of the secured property; to sell the secured property; or to
appoint a receiver to manage and/or sell the secured property.
Where the creditor is in possession of a debtor’s property, the
creditor can, in certain circumstances, exercise its lien by selling the
property to recover the owed sums. Further, suppliers can ensure their
contracts have a retention of title clause to reserve title to the goods
until payment for them is received. If the customer becomes insolvent,
the creditor/supplier can repossess the ‘unpaid-for’ goods since they
belong to it. This mechanism is, however, only useful where title is yet
to pass to the buyer.
(b) Attachment and execution by an unsecured creditor
Upon proving that a debt is owed before a court of law, an unsecured
creditor can obtain a court order to take possession of the debtor’s
property with the aim of on-selling such property to repay itself.
However, to be lawfully entitled to the said debtor’s properties,
execution of the order needs to be complete before the start of any
liquidation proceedings against the debtor. If any liquidation
proceedings have begun, the creditor will require permission from the
court to proceed.
(c) Contractual creditors’ protection mechanisms
Creditors can also rely on the contracts they have with a potential
debtor to protect themselves. The contract should provide for the
payment terms and consequences of default by the debtor. In addition,
the contract may provide for the control of the debtor’s conduct to
protect the interest of the creditor. For instance, charging adequate
interest rates; restricting the freedoms of the defaulting business such
as restricting its ability to borrow further; restricting distributions
to shareholders; allowing for acceleration of loans granted to the
debtor upon the occurrence of any of a number of specified “events of
default”; and asking for additional securities from the debtor. The
above mechanisms place secured creditors at a better position than
unsecured creditors. However, the restrictions must be reasonably
qualified to ensure that the contract is practicable.
(d) Inter-creditor arrangements
In instances where there is more than one creditor to a common
debtor, the risk of some creditors acting against the interest of the
others is real. An inter-creditor agreement can be entered into between
the creditors to regulate their individual conduct by ensuring that
there is a consultative approach taken when dealing with and taking
action against the debtor.
(e) Entering into debt settlement plans with debtors
Creditors can also enter into debt payment plans to reduce the
principal sums owed to them over time. A creditor may take such action,
where it realizes that a demand for full payment will not yield any
results.
(f) Factoring and invoice discounting
A creditor can sell off the debts owed to it by a debtor to a third
party (called a factor) at a discount, thereby immediately unlocking
cash payments and relieving the creditor from the burden of having to
constantly collect and/or wait for payment.
(g) Insolvency proceedings/ Debt Restructuring
Finally, if all other debt collection methods fail, a creditor may
decide to initiate insolvency proceedings against the defaulting debtor
company, where a liquidator is appointed to gather all the defaulting
debtor’s assets and pay off its debts.
The liquidator will pay the creditors from the assets of the company
in the prescribed order under the Insolvency Act, 2015. The Act gives
priority to the secured creditors then, preferential creditors and
finally unsecured creditors respectively.
During the course of the insolvency proceedings or during any debt
restructuring negotiations that may result, various payment options may
be presented to creditors to finalise the process, including: (i)
periodic payment plans, (ii) waiver of a certain portion of the debt
(often referred to as taking a ‘haircut’) and full payment of the
balance in full and final settlement, or (iii) the issue of equity or
quasi-equity securities in the company to creditors.
Conclusion
Businesses should, depending on (i) a customer’s payment track
record, (iii) their ability to pay and/or (iii) the value of the goods
or services in question, insist on requiring customers pay them either
on delivery, or provide them with letters of credit or other similar
instruments, whereby payments are more or less guaranteed. Should such
measures not be available to a creditor, then immediate steps should be
taken towards realizing unsecured debts at the earliest opportunity.
Article written by Waringa Njonjo and Ken Likoko Wanasunia
Disclaimer: This article has been prepared for informational
purposes only and is not legal advice. This information is not intended
to create, and receipt of it does not constitute, a lawyer-client
relationship. Nothing on this article is intended to guaranty, warranty,
or predict the outcome of a particular case and should not be construed
as such a guaranty, warranty, or prediction. The authors are not
responsible for any actions (or lack thereof) taken as a result of
relying on or in any way using information contained in this article and
in no event shall be liable for any damages resulting from reliance on
or use of this information. Readers should take specific advice from a
qualified professional when dealing with specific situations.