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Liquidations

What is liquidation?

Liquidation is the process of winding up a company's financial affairs in order to provide for an orderly dismantling of the company's structure, the undertaking of appropriate investigations and a fair distribution of the company's assets to its creditors. This occurs either because the company can't pay all of its debts (i.e. it is insolvent), or its members want to end the company's existence.

Why choose liquidation?

Liquidation is the only way to fully wind up the affairs of a company and end its existence - as opposed to just selling the company's assets and paying its debts which leaves the company in existence. Having an independent party act as liquidator to undertake the process protects creditors', directors' and members' interests while the company structure is dismantled.

How can an insolvent company be wound up?

A company can either be wound up by resolution of its members at an appropriate meeting, or by the Court usually on the application of one or more creditors.

(i) If it is wound up by the Court (a court liquidation), the applicant usually must prove to the Court that the company is insolvent or can be deemed to be insolvent. The Court will then appoint a liquidator, who will usually be nominated by the applicant. The Court may also wind up a company when there are irreconcilable disputes between shareholders or directors, or for a limit number of other reasons.

(ii) If it is wound up at a meeting of its members (a voluntary liquidation) the members will chose the liquidator - though creditors may have a right to change the liquidator. This process can begin through either the Voluntary Winding Up provisions or the Voluntary Administration provisions of the Corporations Act.

The liquidation process will be almost identical regardless of how it is commenced.

How do you prove that a company is insolvent?

A company is insolvent if it can't pay all of its debts as and when they fall due, even though the company may have an asset surplus but no ability to liquidate those assets quickly. But insolvency needs to be proved to the court. A company is deemed to be insolvent when it does or fails to do certain things prescribed in law.

Most commonly it will be deemed insolvent if it fails to satisfy a statutory demand issued by a creditor. Once the statutory demand expires, the court will not need to look at assets and debts.

Can solvent companies be wound up?

Yes. Solvent companies can be wound up by its members as a Members Voluntary Winding Up.

Solvent companies can also be wound up by the Court on an application by its directors or members. This usually occurs when there is a conflict in the leadership of the company and the parties are unable to resolve that conflict or cannot agree to appoint a liquidator voluntarily.

For more information: Fact Sheet: Members' Voluntary Winding Up

What is provisional liquidation?

The Court may appoint a liquidator provisionally to exercise interim control over the assets and affairs of the company in the period between when a winding up application has been filed and when the application is heard by the Court.

A provisional liquidator is appointed when the Court believes the assets may be at risk and that it is in the interest of the parties that these assets be protected until the winding up application is heard. The appointment is provisional as the company may not be wound up at the hearing of the application, at which time control may pass back to its directors. (Provisional liquidation is the subject of another Fact Sheet.)

Who conducts the liquidation of a company?

Liquidations are administered by liquidators, who are generally specialist accountants. There are two levels of liquidators:

(i) registered liquidators are registered with ASIC and can take all type of appointments, except those ordered by the Courts.

(ii) official liquidators are experienced registered liquidators who have been registered with the Courts and who are able to accept Court and all other types of corporate appointments .

What does the liquidator do?

The liquidator will:

• find and protect the assets of the company;
• realize those assets;
• conduct investigations into the financial affairs of the company and any suspicious transactions;
• make appropriate recoveries;
• issue reports to ASIC and creditors;
• make a distribution to creditors;
• make a distribution to shareholders (if a surplus exists) and
• apply to deregister the company.

What effect does the liquidation have on the company?

The company structure itself survives the appointment of a liquidator, but not the liquidation. The control of all assets, the conduct of any business and other financial affairs are transferred to the liquidator. The directors cease to have any authority. All bank accounts are frozen, all employment can be terminated, but necessary labor may be rehired by the liquidator.

At the end of the liquidation the liquidator will apply to ASIC to have the company deregistered, after which the company will cease to exist.

Can a company trade during the liquidation?

The liquidator will continue trading a business if they believe that it will be in the interest of creditors to do so. This is usually done when it may be possible for the business to be sold as a going concern, or in order to complete and sell work-in-progress. The liquidator has the obligation to end trading and wind up the affairs of the company as quickly, but as commercially, as practical. His role is to eventually cease the trading.

What must the directors do to help the liquidator?

The directors must provide information about the company's affairs and provide a Report as to Affairs (detailing the assets and liabilities of the company) and a Director's Questionnaire. The directors must also hand over all of the company's books and records and cooperate with the liquidator throughout the liquidation. There are various offense provisions that relate to directors who do not cooperate with liquidators.

What investigations are done?

The liquidator must establish the following:

1. Why the company is insolvent and when it became insolvent;
2. Whether there is a potential insolvent trading claim against the directors;
3. Whether there are any preferential payments to creditors that may be recovered;
4. Whether there are any offenses that may have been committed by the officers of the company;
5. Whether any void transactions can be overturned; and
6. Whether any other recoveries may be made.

These powers include holding public examinations of the directors and other parties, seizing books and records, gaining access to property and detaining persons relevant to the investigation. Also, the liquidator must identify any offenses committed by the directors and report these to ASIC.

Can the liquidator recover property sold before the liquidation commenced?

Sometimes. The liquidator will look at any sales or transfers of property that have occurred within the years before the liquidation. If a transaction appears improper, uncommercial or to have been undertaken to defraud creditors, that property or its value may be recovered from the recipient. The liquidator may also recover money from creditors who have received payments that gave them 'preferential' treatment in the six months before the liquidation.

What is Insolvent Trading?

This is a claim for compensation made against a director who allows a company to incur debts when he or she is, or should be, aware that the company cannot pay them. Directors have a positive duty to ensure that their company does not continue to incur debts at a time when it is insolvent. If the company is wound up and some of that debt remains outstanding, the directors can be made personally liable to compensate the company for that amount.

For more information: Fact Sheet: Insolvent Trading and Company Directors

Can a liquidator attack the director's personal assets?

No. The liquidator can only take possession of the company's assets. However, if the liquidator can prove that company assets have been taken by the directors, the liquidator may recover those particular assets or their value. If the company has loaned money to the directors, the liquidator will seek to recover the monies.

If the liquidator can prove a claim against a director, he may take recovery action against that director liable to compensate the company and if necessary bankrupt them. This will allow a trustee in bankruptcy access to the director's assets to satisfy the claim of the liquidator.

What is the effect of the liquidation on personal guarantees?

Personal guarantees executed by directors and other parties are not affected by liquidation, as a guarantee is an arrangement between the creditor and the guarantor personally.

What is the effect of the liquidation on secured creditors?

The rights of secured creditors are not affected by the liquidation. It is common for secured creditors to allow the liquidator to sell the assets whilst he or she recognizes the rights of the secured creditor. The secured creditor may prove in the liquidation for any shortfall after their security has been realized.

What is the effect of the liquidation on unsecured creditors?

Creditors lose their right to recover money from the company, but gain a right to prove for dividends in the liquidation.

Can a liquidator pay dividends?

Yes. The ultimate role of the liquidator is to sell the company's assets and distribute the net proceeds amongst creditors.

Are the dividends paid under certain priorities?

Yes. The liquidator must pay dividends in the order of priorities set out in section 556 of the Corporations Act. These include:

(a) the costs and expenses of the liquidation;
(b) the costs of the creditor who applied for the winding up (if any);
(c) employee entitlements; and
(d) other unsecured creditors.

How long does the liquidation last?

There is no set time limit. The liquidation lasts for as long as is necessary to complete all of the tasks, but the liquidator will usually try to finalize the liquidation as soon as possible.

How does the liquidation end?

The liquidation ends when either:

(a) the company is dissolved by Court Order on the application of the liquidator;
(b) the company is struck off the register of companies by ASIC; or
(c) the winding up is set aside or stayed by the Court.

Disclaimer
The enclosed information is of necessity a brief overview and it is not intended that readers should rely wholly on the information contained herein. No warranty express or implied is given in respect of the information provided and accordingly no responsibility is taken by Worrells or any member of the firm for any loss resulting from any error or omission contained within this fact sheet.

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Last Updated: 28.1.2010