It’s a sign of the times that the courts are currently dealing with an unusually high volume of liquidation matters. For most business owners, insolvency (or bankruptcy) is considered the very last option; many of them see it as a surrender, defeat or even humiliation. However, this need not be the case; in fact, for some business owners it is merely the most strategic and pragmatic option available to them. A well-managed and carefully guided insolvency can mean the difference between an opportunity to start over and disastrous financial ruin. This article briefly discusses insolvency and liquidation.
All businesses, at some point, experience cash flow issues: creditors start sending letters of demand, Sheriffs start serving summonses and finances become increasingly tight. If these symptoms persist and you are unable to negotiate with your creditors, you may soon be looking at one of the following:
(This article will focus on options two and three, as we have previously discussed Business Rescue)
A company will be considered insolvent in one of two circumstances:
Where its assets are exceeded by its liabilities (or factual insolvency); and
Where it is unable to pay its debts as and when they become due and payable (or commercial insolvency).
Once one or both of the above has been established, the company must be placed in liquidation (this is very important for the directors of the company, see below). The liquidation places the assets of the company in the hands of an appointed liquidator who will then attempt to realise maximum value for the assets. The liquidator uses these proceeds to pay the costs of liquidation and a dividend is paid to the company’s various creditors, in proportion to their proven claims. After the above claims are settled, the company’s shareholders may receive any residual amounts.
Voluntary Liquidation v Compulsory Liquidation
Voluntary liquidation involves a decision, by the company’s board of directors by way of a resolution, to go into liquidation and to apply to court for such an order. Compulsory liquidation will be initiated by a creditor or one of its shareholders, by making application to court. The costs of liquidation are initially funded by providing security to the master, and therefore, by the applicant.
Both processes produce similar end results; however, the measure of control which is possible for directors to maintain when embarking on a voluntary liquidation makes it an infinitely more attractive option. Perhaps the biggest advantage is that the company’s directors decide at which point to go into liquidation, giving them time to get the company’s affairs in order and to maximise the remaining trading days. The alternative, allowing debts and judgments against your company to accumulate, increases the likelihood of a creditor bringing the application. There is no telling when such application will be brought, and, in most cases, will make the process hostile.
In certain circumstances (trading recklessly, trading under insolvent circumstances, with intention to defraud any person or for any fraudulent purpose) the Companies Act provides that directors can be held personally liable to persons who suffer loss or damage (this can also include shareholders). In insolvency, this means that there is a possibility that directors can be held personally liable for the debts of a company, even after the company has been placed under liquidation. In extreme circumstances, there may even be criminal liability for the directors. This represents another compelling motivation for voluntary liquidation over compulsory; the latter may leave the company trading under insolvent circumstances for some time before a creditor brings the necessary application.
Void and Voidable Transactions
It is important to note that certain transactions, having the effect of prejudicing creditors, preferring one creditor over another or where assets are alienated for no value, may be voidable and set aside. Again, this shows the importance of placing the company in liquidation as soon as insolvency is established.
Should you require any further information on this subject or would like to engage our services in insolvency or liquidation proceedings, please feel free to contact the author or Hayley Langdon.