Company Liquidation Costs
When a business goes into liquidation who is affected and at what cost? And how can Voluntary Administration change the outcome?
The liquidation of a company impacts many parties, not solely the owners and shareholders. We look at who is affected when liquidation occurs and the broader impact this has on society. Are there actions that can be taken to avoid the finality of liquidation? In many cases, voluntary administration, if actioned early, is a way to reduce the far-reaching devastation that liquidation inflicts. The real cost of liquidation is far greater than you would expect.
A business will exist on the drive and will of its owners, but despite their best intention and efforts, there is a potential for the business to fail. A company is started by its founding shareholders, nurtured by its hardworking owners, and established into a sustainable organisation by employees. The enterprise has the potential to flourish and prosper but it also may flounder and end up in liquidation. If that does occur, the human and economic capital invested by all participants will be lost. But it does not end there – the impacts of liquidation are felt by a much wider group, many of which had no direct connection with the company.
Who is impacted when a company goes into liquidation?
Who pays the price if failure does occur? Creditors and third-party suppliers are the clear frontrunners to feel the impacts of liquidation. They have a legitimate expectation that the goods and services they provided will be paid for, and if that is not going to occur, it will impact their business. But the impact does not stop there.
What happens to employees?
Employees will be severely affected given their reliance on a regular income. The consequences for them will be immediate and impact heavily upon the living conditions of the family unit. Although employees have a legal preference to be paid, this is dependent on the availability of resources and, in any event, may be subject to the costs of liquidation. Even if a payment is to be made to employees, it is not likely to be at a time that matches the urgency of their needs.
What happens to customers after liquidation?
A severe and harsh outcome falls upon the customers that may have made a prepayment for work not now able to be completed because of the liquidation. Partial construction of a dwelling funded by a home lender leaves the owner with debt – but no matching asset. To complete the build there will be additional cost as the new provider strives to step into the previous work so that codes of compliance can be met. In some situations, the customer may have paid ahead in the reasonable expectation that the payment was being used for the customer’s build. On collapse of the company, they learn that the funding was used to meet obligations the company had to other creditors. This is a heartbreaking event for the customer and has a devastating and long-lasting effect. Replacement providers must be found, and there is likely to be price differentials and inconvenience cost that the parties will have to bear.
What happens to the IRD?
group becomes a creditor because of compliance failure. The company is simply a collecting agent for the Commissioner of Inland Revenue. The money that comes into the hands of the company are held in trust for the Commissioner and if not paid, the company has misappropriated the Commissioners funds. Earnings-related taxes are in a different category. Often there is an air of indifference about this obligation, but the reality is – the company has used other taxpayers’ money for their own purposes, without consent or authority, and all taxpayers share in the cost of that loss.
What happens to shareholders?
Shareholders will have lost their introduced capital but also the human capital of many years of toil that now have no immediate commercial value. Technologies that were accumulated, as well as the systemic know-how earned, are now without value upon liquidation.
What happens to guarantors after liquidation?
Many providers require guarantees from persons outside the business before they will supply. In a corporate collapse, the affected creditor that holds a guarantee will be entitled to look to the guarantor for settlement. Contracts of guarantee are often not given the consideration that should take place at the time of their execution. They are usually agreed to as opening the door to achieve supply – with little consideration given to the promise to meet the company’s obligation if called upon to do so. When liquidation occurs, the reality of that promise – probably made many years ago, sheets home a hardship that will be significant.
The social impact of liquidation
There are also significant social consequences that result from liquidation. Costs associated with employee termination can result in welfare benefits needing to be paid. This is a cost to the state and likely to be far less than the employee was earning, which will bring a deprivation to the needs of family members. The same is true of creditors that will not be paid – this will often result in belt-tightening exercise and a constriction of that party’s business plans.
Voluntary Administration: an alternative to liquidation
Business failure is a natural counterpart to business, but before failure there are options available which are simply ignored by the director. There is just one requirement to be met to mitigate much of this damage – it’s for the persons in control of the company to seek help before matters become irreparable. When considered, it is staggering to learn how much of this damage can be avoided if remedial steps were taken. Although the natural reluctance to bring in outside help is understandable, it ranks a long way below the importance of protecting innocent persons from the effects of liquidation.
Fortunately, there are ways of reconstructing the affairs of the business so that viability can be restored, and liquidation avoided. Voluntary Administration is the process initiated by directors to undertake a rehabilitative process of the affairs of the company as an alternative to liquidation. It is a formal state of insolvency, and control does revert to the appointed Administrator, but that brings the immediate benefit of a moratorium. This provides the breathing space required to investigate the company and to produce a recovery plan. This is a much better option than letting matters decay to a point where recovery is impossible – and liquidation results.