When a business gets into trouble, it has a number of insolvency options. Whether you’re an advisor to a business in financial strife or you’re in charge of such a business, liquidation is one possible outcome. However, many people are surprised to discover that even profitable, thriving businesses may choose to enter liquidation. But why would they?
We’ve broken down what is business liquidation, what it involves, and why you might choose it.
What is liquidation?
Liquidation involves winding up the financial affairs of a company as well as selling off the business’s assets to repay its debts. It includes dismantling the company’s structure in an orderly way. The liquidator is also tasked with investigating what might have gone wrong with the business if the company is liquidating due to financial issues.
Liquidation applies only to companies (businesses operating under the company structure). Bankruptcy – a different concept that’s sometimes confused with liquidation – only applies to individuals, including sole traders and partners in partnerships.
During liquidation, a liquidator is appointed to oversee the process and the liquidator has full control over the company’s operations, financial affairs and assets. The task of the liquidator is to wind up the affairs and cease trading as cost-effectively as possible.
Liquidation is different to selling a business, which only involves a change of ownership. Liquidation is the only way to wind up a company and terminate its existence. Once a company is liquidated, it is completely dissolved and permanently ceases operations.
The liquidation process
Liquidation may occur when a business is unable to pay its debts. This is called involuntary liquidation. Usually this involves a court order, made after an application by a creditor, though directors or a majority of shareholders can also apply to the court.
In addition, businesses might choose to liquidate if they want to stop operating for insolvency or other reasons. This is known as voluntary liquidation, and it’s decided by a members’ or creditors’ resolution. With voluntary liquidation, the company might have already gone through voluntary administration and/or a Deed of Company Arrangement (DOCA), and have since decided that the business is no longer viable and so chosen to wind it up.
Once the company is in liquidation, unsecured creditors cannot continue or start legal action unless they have permission from a court. Directors no longer have authority, and the company’s bank accounts are frozen. Any trading that continues is at the discretion of the liquidator.
Liquidation can last as long as necessary, but the process has to conform to strict rules and procedures depending on the type of liquidation it is.
Why choose liquidation?
Liquidation is theonly way to wind down operations and shut down a business in an orderly way. It ensures assets are distributed among creditors, and helps minimise the impact of insolvent trading. It also gives shareholders, creditors and directors the opportunity to have an independent expert investigate and manage the liquidation.
So the top reasons include control, lower costs, and freedom from the stress of insolvent trading.
Liquidation vs. voluntary administration
Voluntary administration is very different from liquidation. Though liquidation is a possible outcome, voluntary administration won’t necessarily result in business liquidation. It’s a chance for directors to appoint an external administrator to possibly help overcome the business’s financial problems and return to normal trading. The business could enter a DOCA, return to the directors’ control, or be liquidated. In contrast, liquidation means the company will soon cease to exist with no chance of returning to trading.
While both processes involve bringing in an expert to manage the business, voluntary administration opens the door to a wider range of possibilities than liquidation, which always results in the company shutting down.
Outcomes of liquidation for employees
Once the liquidator is appointed, the company’s directors lose all legal authority and the liquidator could decide to terminate all employees. However, if the liquidator believes temporarily continuing trading is the best course of action, employees could continue in their roles or be rehired. This typically happens if the liquidator intends to sell the business.
Employees are likely to lose their jobs in the event of liquidation. Additionally, they could also lose out on entitlements if there are insufficient assets to cover the cost of the entitlements. However, employees could recover some of this through the Fair Entitlements Guarantee (FEG). The FEG is a government scheme that lets liquidation-affected employees claim up to 13 weeks of unpaid entitlements like wages, annual leave, redundancy pay, long service leave, and payment in lieu of notice.
Why would a successful business liquidate?
Liquidation is sometimes voluntarily entered into by profitable businesses as it’s the only way to shut down operations, and if the owner does not or cannot sell the business.
For example, if a business has been built based on the services of a single person, then the stepping down of that person may require the business to be liquidated even though the business is currently viable. Another scenario may be if there has been an attempted ‘hostile takeover’ of a successful business, then in order to prevent the business from being taken away from them then the owners may choose to liquidate.
More information? To find out more, give us a call on 1300 023 782 or email email@example.com.
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