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11 MAY 2020 FINANCE & BANKING ALERT IN THIS ISSUE > The impact of the National Credit Downgrade of South Africa’s Act on contracts of suretyship credit rating further into junk A notable feature of credit transactions is the On 29 April 2020, Standard & Poor's Global inherent commercial risk to credit providers. Our Ratings (S&P) lowered South Africa’s sovereign law, however, makes provision for the alleviation credit rating further into non-investment grade, of such risks through, among others, the laws otherwise known as junk status, citing the relating to security. In order to mitigate these impact of COVID-19 on South Africa’s public risks, creditors have the option to require their finances and economic growth as one of the debtors to provide them with security for the reasons for its ratings action. fulfilment of their obligations. FOR MORE INSIGHT INTO OUR EXPERTISE AND SERVICES CLICK HERE
FINANCE & BANKING
The impact of the National Credit
Act on contracts of suretyship
A notable feature of credit transactions third party in favour the creditor, or the
is the inherent commercial risk to credit conclusion of a contract of suretyship
A creditor who requires providers. Our law, however, makes between the creditor and the third party.
provision for the alleviation of such In either case, the third party binds itself to
security for the fulfilment
risks through, among others, the laws the creditor and holds itself liable for the
of an obligation may relating to security. In order to mitigate obligations of the debtor.
obtain such security in these risks, creditors have the option
A contract of suretyship is an agreement
various forms. to require their debtors to provide
in terms of which one assumes liability
them with security for the fulfilment of
for the obligations of another, which
their obligations.
obligations have arisen pursuant to a
A creditor who requires security for the lawful underlying causa. Put differently,
fulfilment of an obligation may obtain such it is an agreement, which is ancillary to a
security in various forms. For instance, the valid primary obligation, in terms of which
creditor may require the debtor to provide one (the surety) secures the obligations
real security in the form of a pledge of another (the principal debtor), by
of its movable property, or a cession binding themselves to the creditor. In
in securitatem debiti of the debtor’s assets, consequence, if the principal debtor
in favour of the creditor. Alternatively, the fails, without lawful reason, to fulfil its
debtor may provide personal security by obligations to the creditor, the surety
procuring that a third party be bound to will fulfil such obligations. The accessory
the creditor, such that if the debtor fails to nature of the contract of suretyship was
fulfil its obligations to the creditor, such emphasised by the Constitutional Court
third party will be liable for the fulfilment in Shabangu v Land and Agricultural
of the debtor’s obligations. That personal Development Bank of South Africa and
security may be provided in a number of Others 2020 (1) SA 305 (CC), which held
ways including inter alia, the provision that a suretyship cannot survive where
of a guarantee and/or indemnity by the the underlying obligation is invalid. It has
become the practice for sureties to bind
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2 | FINANCE & BANKING ALERT 11 May 2020
FINANCE & BANKING
The impact of the National Credit
Act on contracts of suretyship...continued
themselves to creditors as both surety or credits extended by insurers only for
and co-principal debtor. In such cases, maintaining premiums on insurance
In light of the nature of although the surety will have bound policies, leases of immovable property and
themselves as a co-principal debtor, their stokvel transactions from the definition of
contracts of suretyship, liability still emanates from the contract credit agreements.
they have become an of suretyship. The effect of entering into
The court in Firstrand Bank Ltd
important means by which the contract as a co-principal debtor is
v Carl Beck Estates (Pty) Ltd and
credit providers manage that the surety renounces the common
Another 2009 (3) SA 384 (T) provided that
law benefits of excussion and division,
the risks presented by and they become jointly and severally
“there is no doubt” that the obligations
credit transactions. liable for the obligations of the principal
of a surety constitute a credit agreement,
including a credit guarantee pursuant to
debtor. Moreover, notwithstanding that
which one undertakes the obligations of
their obligation remains ancillary, the
another pursuant to a credit facility or
surety becomes entitled to the defences
credit transaction. The court further held
attaching to the principal obligation itself
that although a contract of suretyship
and defences available to the principal
constitutes a credit guarantee for purposes
debtor, save for those personal to the
of the Act, it is only regarded as such if it
principal debtor.
is provided pursuant to a credit facility or
In light of the nature of contracts transaction. In addition, the court provided
of suretyship, they have become an that the contract of suretyship does not
important means by which credit providers create an independent obligation on the
manage the risks presented by credit part of the surety nor does it transform the
transactions. It is therefore, necessary to surety into a principal debtor. Moreover the
determine whether or not the National contract of suretyship does not constitute
Credit Act (Act) applies to contracts of a credit provided to the surety, neither
suretyship and, if so, the consequences does it make the surety a party to the
thereof. Although the Act has been in underlying agreement in respect of which
force for a number of years, there are still the suretyship contract is provided as
uncertainties regarding its effect on certain security. This is so, even where the surety
types of contracts, one of which is the has concluded the contract as both surety
contract of suretyship. The Act provides and co-principal debtor.
that, subject to certain exceptions, it
Given that the definition of credit
applies generally to all credit agreements
guarantees provided in the Act requires
between parties dealing at arm’s-length,
such agreements to have been concluded
which are concluded or have an effect
pursuant to a credit facility or credit
in South Africa. In terms of the Act, an
transaction which is subject to the Act, it
agreement constitutes a credit agreement
follows that for a contract of suretyship
if it is a credit facility, a credit transaction
to be governed by the Act, the underlying
or a credit guarantee as defined therein,
transaction must similarly be governed by
or any combination thereof. However, the
the Act.
Act specifically excludes insurance policies
3 | FINANCE & BANKING ALERT 11 May 2020
FINANCE & BANKING
The impact of the National Credit
Act on contracts of suretyship...continued
In light of the fact that under common Having regard of the aforegoing
law, a surety is entitled to the defences discussion, it is clear that the provisions of
In light of the fact that available to the principal debtor, save for the Act have had a significant impact on
those personal to the principal debtor, contracts of suretyship. As outlined above,
under common law, a it would follow that a surety would be the Act categorises suretyship agreements
surety is entitled to the entitled to the protections which the concluded pursuant to a credit agreement,
defences available to the Act avails to consumers. This would as credit guarantees and accordingly
principal debtor, save include, without limitation, the defence renders the Act applicable to them. It is
of reckless credit lending by the creditor, apparent that the effect of the Act on
for those personal to or unlawfulness of the underlying credit contracts of suretyship is that enforcing
the principal debtor, it agreement. Moreover, before being security granted under such contract has
would follow that a surety able to hold the surety to its contractual become more onerous on the creditor.
obligations, the creditor would have to Accordingly, it may have the consequence
would be entitled to the
follow the process set out in the Act for of alienating contracts of suretyship when
protections which the Act enforcing a credit agreement, including it comes to securing credit facilities or
avails to consumers. the prescribed notices set out in the transactions.
Act. The creditor would have to follow
the debt collection processes set out Kuda Chimedza and
in the Act, and if the surety were over Mashudu Mphafudi
indebted, it would be entitled to rely on the
provisions of section 79 of the Act. All of
the above implications render a contract
of suretyship governed by the Act, weaker
security than it was under common law. It
is also more onerous on credit providers.
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FINANCE & BANKING
Downgrade of South Africa’s credit
rating further into junk
On 29 April 2020, Standard & Poor's Clients need to know that there is a direct
Global Ratings (S&P) lowered South correlation between the level of long-term
The rating agency Africa’s sovereign credit rating further interest rates and the depth of junk status.
into non-investment grade, otherwise This means the further South Africa falls
downgraded South
known as junk status, citing the impact into junk status, the more long-term
Africa’s long-term foreign of COVID-19 on South Africa’s public interest rates will tend to rise. Simply put,
currency credit rating finances and economic growth as one investors will most likely demand a higher
from BB to BB-, being of the reasons for its ratings action. rate of interest for lending, which will raise
borrowing costs. It should, however, be
three notches below The rating agency downgraded South
noted that in a recent briefing by National
investment-grade and its Africa’s long-term foreign currency credit
Treasury held on 30 April 2020, it was stated
rating from BB to BB-, being three notches
long-term local currency below investment-grade and its long-term
that the monetary policy implemented is
helping to support the cost of borrowing by
credit rating from BB+ to local currency credit rating from BB+ to
providing liquidity in the bond market, and
BB, being two notches BB, being two notches below investment-
ultimately is reducing bond yields.
below investment-grade. grade. This decision comes weeks after
Fitch Ratings downgraded South Africa’s Generally speaking, clients should also
ratings deeper into junk as a result of the carefully consider provisions in facilities
lack of “a clear path towards government insofar as the rating of South African banks
debt stabilisation”, which was preceded and other financial institutions’ long-term
by Moody’s decision to downgrade South unsecured and non-credit enhanced debt
Africa’s sovereign investment-grade credit obligations are concerned.
rating in March 2020.
Some other impacts expected from the
S&P further said South Africa’s cost of downgrade, include the deterioration of
servicing public debt will climb to about South Africa’s credit reputation, less access
6.5% of GDP by 2023. S&P also predicts that to conventional credit markets; deterioration
South Africa’s GDP will shrink by 4.5% this in consumer and business confidence
year – better than the South African Reserve leading to a potential contraction in private
Bank’s forecast of 6.1%. investment and consumption demand;
South Africa losing its status in various bond
Despite S&P’s decision to downgrade the
indices whereby some bond investors with
country’s sovereign credit rating during
mandate limitations are prohibited from
these challenging times, government
buying the country’s bonds; and a large
welcomes S&P’s revised outlook from
forex outflow as foreign investors dump
“negative” to “stable”, and in the very least
South African debt.
considers this as an indication that the rating
agency “recognises some of government’s The future of the South African economy
fiscal and monetary policy measures as is faced with a lot of uncertainty, however,
strong points”. it seems that government is committed to
implementing structural reforms to move
The downgrade casts further gloom on
South Africa onto a higher growth path
South Africa, however, what impact does the
and to forge a new economy in light of this
downgrade of the country’s sovereign credit
global reality.
rating have on clients and investors in the
near future?
Pierre Swart and Stephanie Goncalves
5 | FINANCE & BANKING ALERT 11 May 2020OUR TEAM
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