What Is Liquidation Of A Company?: Reasons Why it occur

what is liquidation of a company? -reasons why it occur

Every business is created with the aim of earning profit and to grow into a larger scale business but there are certain conditions which may cause a business to sell its assets and stop it existence. some of these conditions could be; illegal transactions, productions of harmful products, bankruptcy, debts etc.

A company that finds it difficult to pay its debts, and also to meet up with the product process  due to bankruptcy, may decides to liquidate(selling) all its assets such as working machines, cars, buildings and others, in to physical cash and then stop is existence.

In some conditions, liquidation can be seen if a company is producing harmful goods or producing goods illegally.

What Is Liquidation(Winding-Up)?

Liquidation in economics is the process where by a company brings its transactions to an end and distributes its assets to claimants. It is an event that usually occur when a company is insolvent, meaning it cannot pay its obligations or meet its objectives when they are due. When a business ceases operations, the remaining assets are utilized to pay creditors and shareholders in the order of their claims. 

During liquidation, the most secured creditors who have collateral on loans to the business are first settled. These lenders will seize the collateral and sell it at a significant discount, due to the short time frames involved. If that does not pay the debt, the remaining sum will be recovered from the company's remaining liquid assets, if any.

The unsecured creditors which include; bondholders, government(if it owed taxes), and employees( if they owed unpaid wages).

The shareholders receive any remaining assets left after all creditors have been paid.

To liquidate simply means to convert assets in to cash or cash equivalents by selling them in an open market.

Reasons For liquidation Of Company?

 As simple as it might sound, there are different circumstances under which a company can be send into liquidation. some of which include;

Member's Voluntary Liquidation

Some examples include; In certain situations, the business owner may freely choose to discontinue the company. And at the stage, the business is in fact still able to make its payments on time and grow it profit, but it's the choice of the business owner or partners to wind-up(stops operations).

Member's voluntary liquidation may occur if there is no good coordination amongst partners or a business owner wants to relocate or switch to other business activities. It could also occur if the shareholders are afraid to face any future unforeseen condition that could lead to them enquiring a lost.

Creditors' Voluntary Liquidation

Creditor's voluntary liquidation occurs when the director of a company realizes that the business is not able to pay off its debts and can begin the process of liquidation after conducting a vote with the shareholders. If the majority of shareholders(75% or more) vote to liquidate, then the process get started.

Compulsory liquidation

In a compulsory liquidation situation, the firm is unable to make debt payments, and the director appeals immediately to the court to seek that the liquidation process be initiated. 

The court the send a liquidator to liquidate the business. The liquidator has rights(power) given to him by the court as we will see below.

Forceful Liquidation/Liquidation by Law

In this cases, forceful liquidation occurs not because the company is not making profits and growth or has debts but due to it engaging in to illegal deals or producing harmful goods and services to the public. The liquidation of such companies is usually under government order and the company dissolved from the legal system of the country where it is found.

Examples, a company that initially has the objective of producing bread, eventually starts producing marijuana for the public, can be dissolved by the government in order to secure her population and the assets of the company liquidated.

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What Are The Roles Of A Liquidator In Liquidation

After understanding what liquidation is and the conditions under which it occurs, we will now look at the role of the liquidator in liquidation.

The liquidator is hired to oversee the liquidation process. They have a wide range of power that allows them to realize or sell the company's assets and utilize the earnings to pay off outstanding obligations. 

The liquidator will take control of the business, organize the paperwork, inform the various authorities about proceedings, settles any claims against the company, manage communication with the directors and report on the reasons for the liquidation.

Specific roles of the liquidator will include:

  • Assessing the company's debts and deciding which one should be repaired in full or in part.
  • Ending any outstanding contracts or legal disputes.
  • Ensuring the company is correctly valued to ensure the maximum return for creditors.
  • Informing creditors of proceedings and involving them in decisions when appropriate.
  • Ensuring funds are fairly distributed to creditors.
  • Compiling a report on the reasons for the liquation process.
  • Dissolved the company.     

What will happen to Directors of a Company in Liquidation

A director is that individual who coordinate activities of a business  in accordance to the companies objectives and obligations.

Firstly, the court appoint an official receiver( liquidator). The liquidator is in charge of the liquidation process.

As soon as the official receiver is appointed, the directors effectively lose their powers to make any decision regarding the business to the liquidator, though they will be required to co-operate with the official receiver to provide all the information necessary and facilitate the process of liquidation

As part of the compulsory liquidation process, the official receiver has to investigate the actions of the company's directors prior to the process. Each director is required to attend a two-hour interview with the official receiver, during which they will be requested to submit a statement of affairs for the firm and detail the events that led to its insolvency. Here, the director needs to provides relevant information, including accounts and statements to the official receiver.

During this process, the official receiver looks out for the following; Wrongful trading, Transactions at an undervalue, Unfair preference. 

Final Thought

When a company becomes insolvent, meaning that it can no longer meet its financial obligations, it undergoes liquidation. Liquidation is the process of transforming a company's asset in to cash by selling them in an open market, in order to pay debts to creditors. This is usually done by a liquidator assign by the court and every director is expected to co-operate with him/ her to facilitate the liquidation process.

Liquidation may be; voluntary, compulsory, or impose by law as seen above