Introduction to Liquidation

Liquidation is the process of winding up a company’s financial affairs. The assets of the company are collected and realised, the resulting funds are applied to discharging the company’s liabilities and debts, and any residual funds are redistributed to the company’s members. Liquidation is the only way to fully wind up the affairs of a company and end the existence of the company.

The chief purposes of liquidation are threefold:

1. Fair distribution for creditors: liquidation provides a procedure that allows for an equitable and fair distribution of the assets of a debtor company to its creditors;
2. Public interest: there is a public utility gained from winding up an insolvent company so that it does not continue to trade and incur further debts that it is unable to pay; and
3. Allows for the investigation of the company’s affairs: liquidation allows for such investigation, with particular emphasis being placed on the circumstances that led to the winding up. Company officers and directors can be held accountable for any improper or dishonest conduct, and as a result there is the chance for possible recovery.

The process of liquidation is one that does not only apply to insolvent companies. A solvent company may apply to enter voluntary liquidation under section 491 of the Corporations Act 2001 (Cth) (Act) and be wound up. Such liquidations are commonly undertaken by groups of companies and subsidiaries where certain companies become superfluous for the requirements of the group and so can be wound up.

An insolvent company can either be wound up by the Court, usually by creditors making an application, or voluntarily by a resolution of the company’s directors/ the company’s members at a relevant meeting. In a Court liquidation, the applicant must demonstrate to the Court that the company is insolvent or can be presumed insolvent.

It is possible for a company to be insolvent even if its total assets outweigh its total liabilities. Given the definition of insolvency in the Act, the test for insolvency accepts that creditors are entitled to be paid at the time that moneys become due for payment. Creditors are not required to accept that a debtor company is asset rich and will pay them at some point in the future when those assets are realised (see Powell v Fryer [2001] SASC 59 at [5]).

 

This article was prepared with the assistance of Matthew Theophile.

 

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