Liquidation: What is the process?

Liquidation is the process of winding up a company’s financial affairs to dismantle the company’s structure by conducting appropriate investigations and enabling a fair distribution of company’s assets to its creditors.

What is liquidation?
Liquidation occurs either because the company cannot pay all of its debts (i.e. it is insolvent), or its members want to end the company’s existence and have it struck off from the Australian Securities and Investments Commission’s (ASIC) register.

Why choose liquidation?
Liquidation is the only way to fully wind up the affairs of a company and end the existence of the company. An independent party undertakes the process and protects the interests of creditors, directors and members while the company structure is dismantled.

How can an insolvent company be wound up?
An insolvent company can either be wound up by the court, usually by one or more creditors making an application to the courts, or by voluntarily by resolution of the company directors and, if appropriate, the company members at a relevant meeting.

What is a court liquidation?
The applicant must demonstrate to the court that the company is insolvent or can be deemed to be insolvent. The court will then appoint a liquidator, usually one nominated by the applicant (creditor). The court may also wind up a company when there are irreconcilable disputes between shareholders or directors, or for a limited number of other reasons.

What is a voluntary liquidation?
A voluntary liquidation is a process whereby the company voluntarily appoints a liquidator. Creditors have the right to change the appointed liquidator at any time. A voluntary liquidation can occur by a creditors’ voluntary winding up or through voluntary administration.

What is a members’ voluntary winding up?
A member’s voluntary winding up is the process for members who wish to dismantle the company structure. Usually the company will be solvent, and a members’ voluntary winding up is chosen as the company has no useful future.

What is a creditors’ voluntary winding up?
A creditors’ voluntary winding up is a process where the directors determine that the company is insolvent and resolve to place the company into liquidation and they appoint a liquidator.

A creditors’ voluntary winding up is commonly used when a company is insolvent and a Deed of Company Arrangement (DOCA) is not possible and the company simply needs to be liquidated. If a wind-up application has been filed with the court, or if the court has ordered that company be wound up, a creditors voluntary winding up is not possible.

Voluntary Administration
A company can also be wound up voluntarily through the voluntary administration process. The directors resolve to appoint voluntary administrators to the company.

A resolution of the members is not required. After the resolution is passed the administrators who consented are then appointed. A meeting of creditors is held within eight business days of the appointment of the voluntary administrator. At this meeting, creditors have the opportunity to appoint alternative administrators.

After the first meeting, the voluntary administrators conduct investigations into the company and issue a detailed report pursuant to section 75-225 of the Insolvency Practice Rules (Corporations) 2016. This report outlines the investigation’s findings and the available options for creditors regarding the company’s future.

The options available to creditors are:

  • to accept a DOCA, if one is proposed
  • to place the company into liquidation
  • to end administration and hand the company back to the directors.

A second meeting of creditors is held to consider these options. Voluntary administrations are geared towards a company that wishes to put up a DOCA; however, there are circumstances where it may be appropriate to place a company into liquidation, for example:

  • winding-up proceedings are underway and therefore the creditors’ voluntary winding-up process is not an option
  • the business is continuing to trade whereby it is more appropriate or advantageous for a voluntary administrator to manage ongoing trade
  • a DOCA is being considered.

Typically, the voluntary administration process is more expensive due to the increased work involved. In most cases the creditors’ voluntary winding-up process is a more appropriate method of the voluntary appointment of a liquidator.

The liquidation process is almost identical, regardless of how it is started.

How do you prove that a company is insolvent?
A company is insolvent if it cannot pay all of its debts as and when they fall due, even if the company has an asset surplus but no way to liquidate those assets quickly. A company is deemed to be insolvent when it does or fails to do certain things prescribed by law. Most commonly a company is deemed insolvent if it fails to satisfy a creditor’s statutory demand.

Can solvent companies be wound up?
Yes. Solvent companies can be wound up by its members via a members’ voluntary winding up.

Solvent companies can also be wound up by the court by way of an application to the court by its directors or members. Court appointments are common when there is a conflict with the control or conduct of the company and its members are unable to reach a resolution, or cannot agree to appoint a liquidator voluntarily.

What is provisional liquidation?
The court may appoint a liquidator provisionally to exercise interim control over the assets and affairs of a company. The appointment is usually for the period between filing the winding up application, and the court hearing. A provisional liquidator appointment is made when the court believes that assets may be at risk and should be protected in the interest of creditors until the winding up hearing. The appointment is ‘provisional’ as the company may not be wound up at the application hearing, at which time control may pass back to its directors.

Who administers a liquidation?
Liquidations can only be administered by specialist accountants who are registered liquidators with ASIC. They can take all types of corporate insolvency appointments, including those ordered by the courts.

What powers do liquidators have?
The Corporations Act sets out the liquidator’s powers. These powers include all the powers vested in the directors of the company, plus the powers to:

  • investigate and examine the affairs of a company
  • identify transactions that are considered void
  • examine the directors and others under oath (public examination)
  • realise the assets
  • conduct and sell any business of the company
  • admit debts and pay dividends.

What does the liquidator do?
The liquidator will:

  • identify and protect the assets of a company
  • realise those assets
  • conduct investigations into the financial affairs of a 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)
  • apply to ASIC to deregister a company.

What is the effect of liquidation on a company?
When a company is liquidated, its structure survives the appointment of a liquidator, but not the liquidation. Control of assets, conducting business, and other financial affairs are transferred to the liquidator. The directors cease to have any authority. All bank accounts are frozen, any employment can be terminated, but necessary labour may be engaged by the liquidator. At the end of the liquidation, the liquidator applies to ASIC for the company to be deregistered, after which the company will cease to exist.

Can a company trade while in liquidation?
A liquidator may continue trading a company if it is in the creditors’ best interest. A trade-on is considered if there is a prospect to sell the business as a going concern, or to complete and sell any work-in-progress. A liquidator is obligated to end trading and wind up company affairs as quickly but as commercially responsible as practical.

What must the directors do to help the liquidator?
The directors must give all information about the company’s financial affairs and provide a Report as to Affairs (detailing the assets and liabilities of the company as at the date of appointment of the liquidator) and assist the liquidator when reasonably asked. The directors must also deliver all company books and records and cooperate with the liquidator throughout the liquidation process. The Corporations Act contains various offence provisions that apply to directors who do not cooperate with liquidators.

What investigations are undertaken by the liquidator?
The liquidator must investigate:

  • why company is insolvent
  • when a company became insolvent
  • a potential insolvent trading claim against the directors
  • any recoverable preferential payments to creditors
  • any possible offences committed by the company officers
  • if any void transactions can be overturned
  • if any other recoveries may be made.

These powers include holding public examinations, seizing books and records and gaining access to property. The liquidator must also identify any offences committed by the directors and report these to ASIC.

Can the liquidator recover property sold before the liquidation?
The liquidator will look at any sales, or transfers of property within the years before liquidation. If property transactions appear improper, un-commercial or undertaken to defraud creditors, that property or its value may be recoverable. The liquidator can recover money from creditors who received payments that gave them ‘preferential’ treatment in the six months before the liquidation.

What is insolvent trading?
Directors have a duty to ensure that their company does not continue to incur debts when it is insolvent. If the director breaches that duty, the liquidator can bring an action against them for recovery of the amount of the debts incurred during the period that the company was insolvent. The insolvent trading claim is made against the directors personally, making them personally liable to compensate the company for the unpaid debts.

Can a liquidator attack a director’s personal assets?
No. A liquidator can only take possession of a company’s assets. However, if a liquidator can prove that the directors have taken company assets, the liquidator may then recover those assets. If a company has loaned money to the directors, the liquidator will seek to recover the money, and if necessary may instigate legal proceedings to recover these funds.

If a liquidator can establish an insolvent trading claim, they may take recovery action against any directors and, if necessary, commence bankruptcy proceedings against that director. This allows a bankruptcy trustee to access the director’s assets to satisfy the liquidator’s claim.

How do personal guarantees become part of the liquidation?
When directors, or other parties, execute a personal guarantee, it becomes a personal arrangement between creditor and guarantor, and therefore not affected by liquidation.

What effect does the liquidation have on secured creditors?
Secured creditor’s rights are not affected by liquidation. Commonly, secured creditors allow liquidators to sell the assets while recognising the secured creditor’s rights. A secured creditor can prove for any shortfall in the liquidation after their security is realised.

What is the effect of the liquidation on unsecured creditors?
Unsecured creditors lose their right to recover money from the company, but gain a right to prove for dividends in the liquidation.

What powers do creditors have?
Under the new Insolvency Practice Schedule/Rules (Corporate/Personal) 2016, creditors have a range of new rights, including:

  • ‘reasonable’ request for information
  • ‘reasonable’ request for meetings
  • give directions to the external administrator/bankruptcy trustee
  • arrange for review or oversight of the external administrator, or the Inspector General Review (for bankruptcy)
  • replace the external administrator/bankruptcy trustee.

Reasonable is defined by excluding the ‘unreasonable terms’. There are many processes for how insolvency practitioners must respond to the above, but are also protected from comprising the administration in terms of privilege, confidentiality, and prejudice.

Importantly, for commerciality and practically standpoints, if there are insufficient funds in the administration to comply with the ‘reasonable request for information and/or meetings’, this could deem the request as being ‘unreasonable’. However, if the creditor is willing to fund such requests, this rationale would become void. If a creditor is dissatisfied with the response from the external administrator, the creditor may apply to ASIC (corporate insolvency administrations) or AFSA (personal insolvency administrations) for a review of the external administrator’s decision.

Can a liquidator pay dividends?
Yes. The ultimate role of the liquidator is to realise the company’s assets and take all possible steps to recover sufficient funds to distribute the proceeds among 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 priorities include:

  1. costs and expenses of the liquidation
  2. costs of the applicant creditor (if the company was wound up by the court)
  3. employee entitlements
  4. other unsecured creditors.

How long does the liquidation last?
There is no set time limit for a liquidation. The liquidation lasts for as long as necessary to complete all the required tasks of liquidation; however, a liquidator will usually try to finalise the liquidation as soon as possible.

How does the liquidation end?
The liquidation ends when:

  • the company is dissolved by a court order on the application of the liquidator, or
  • the company is struck off the register of companies by ASIC at the request of the liquidator, or
  • 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.

Last Updated: 3.11.2017

 

Positive options start by having a conversation