What is Liquidation?

Liquidation is the process of selling assets to free up cash that a company can use to pay its debts to creditors and shareholders. The company ceases trading and closes down in the process.

No one wants their company to fail, but when the worst case scenario happens, liquidation is a safeguard that helps a business owner make their exit without further legal and financial issues.

In this guide, we’ll show you everything you need to know about why liquidation happens, how it works, and the steps you can take to avoid it in Australia. Let’s start by clearing up the definition.

The most important thing to know is that the liquidation process involves selling off a company’s assets to pay debts; it usually doesn’t leave the business owner liable as an individual. Once the debts are settled, the company closes down for good.

On the flip side, bankruptcy occurs when an individual can’t pay their debts (meaning they’re declared bankrupt). It only applies to personal debts or those of a sole trader, not the debt attached to a company that is a separate legal entity.

Administration is usually a precursor to liquidation. It involves an external administrator taking control of the company temporarily to assess options and decide on its future. Often the administrator will try to restructure or ‘save’ the business before they resort to liquidising assets.

Broadly speaking, liquidation happens for three main reasons:

• Insolvency - The company can no longer pay its debts and needs to sell off its assets and dissolve the business to do so. This is the most typical reason for liquidation.
• Voluntary decision - The company directors or shareholders close their doors voluntarily, either due to personal reasons or because the business isn’t profitable.
• Creditor action - Unpaid creditors take action to recover missed payments, which can lead to court orders that demand liquidation.

Liquidation can also refer to a company selling off securities (like shares) for money. However, while often confused, this isn’t related to insolvency.

As we’ve mentioned, liquidation can happen for many reasons, from unpaid debts to voluntary retirements. Each of these reasons results in a different type of liquidation as defined by Australian law. Let’s take a look:

CVL occurs when a company is no longer able to pay its debts. In this case, the company director and shareholders appoint a liquidator to settle outstanding debts and disagreements. This is the most common type of liquidation and the standard procedure for insolvent Australian companies.

In this case, the company is solvent (able to pay its debts), but the director of the company or a shareholder wants to exit the business, often because they want to retire or move on from the solvent company. This typically requires all members to vote in favour of the liquidation. Once the vote passes, the shareholders and director will appoint a liquidator to handle the dissolution.

Court liquidations happen when creditors or lenders issue a statutory demand to the courts requiring that a company pay its debts. If the company can’t pay, the court can intervene and begin an involuntary liquidation. A liquidator is then appointed to sell the assets and settle the debts.

While CVL, MVL, and court liquidation are the most common scenarios, they aren’t the only types of liquidation to know. There are two other scenarios to consider:

• Provisional liquidation - In this situation, the court appoints a provisional liquidator to manage assets before the company reaches a final decision. This usually occurs when there are complex ongoing disputes within the business.
• Partial liquidation - In this scenario, the company only liquidates a part of its assets to pay debts. The company then continues to trade as normal, unlike a complete liquidation, where the business shuts up shop for good.

Now that we’ve built up our understanding of what liquidation is, let’s take a closer look at how it works in Australia with a step-by-step, simplified liquidation process.

First, there’s the decision to liquidate. As we’ve discussed, this can either be out of necessity (such as when a business becomes insolvent) or a voluntary decision. In the latter case, the business will usually need to hold a vote with shareholders to decide whether liquidating is the right choice.

Once the company has decided to liquidate, an independent professional liquidator will be appointed. This is usually a corporate insolvency practitioner registered with the Australian Securities and Investments Commission (ASIC).

The liquidator will take control of the company’s affairs and manage the liquidation of the assets from start to finish.

At this point, the right people need to be notified of the company’s desire to liquidate. This is broken down into two parts:

• Formal notice - The liquidator will publish a notice on ASIC Published Notices , a public listing that anyone can browse.
• Creditor notice - The liquidator will then notify all of the creditors in writing about the intent to liquidate, as well as the rights they have and how to claim for unpaid debts.

At this point, the creditors can also request to hold a meeting to decide whether they approve the liquidator’s proposed process or want to appoint a replacement.

The liquidation process is now officially underway. The liquidator will identify all of the relevant assets and sell them in a reasonable, viable way to generate cash. These assets could include everything from buildings and equipment to intellectual property.

Along the way, the liquidator will also send progress reports to creditors to inform them of the current state of affairs.

As they sell the assets, the liquidator will also investigate the company’s financial dealings more closely. This will help them discover things such as:

• Unrecorded assets or liabilities - such as missing inventory or unpaid taxes.
• Inappropriate transactions - like preferential payment to specific creditors.
• Company director misconduct - including any actions taken to avoid paying creditors.
• Criminal offences - fraud or insolvent company trading, for instance.

All of this improves the chance of a fair liquidation while helping the liquidator decide whether they need to take any further legal action.

At this point, the assets are sold and the liquidator can begin to pay out. This process involves the creditors proving their debts and the liquidator distributing the cash accordingly.

Following a review, the liquidator will begin to distribute the cash according to the order of priority: secured creditors first, then employees and unsecured creditors.

With everything complete, the liquidator will apply to the ASIC to dissolve and deregister the company.

Let’s dive deeper into the priority when distributing payments to creditors. In general, this is the order the liquidator will follow when a company enters liquidation:

1. Liquidation costs - The first priority is the costs of the liquidation process itself. This accounts for legal, administrative and accountancy services.
2. Secured creditors - Secured creditors come in next. These creditors have registered interest in a company’s assets (meaning they have collateral to back up their claims), so they take priority over other creditors.
3. Priority unsecured creditors: This category includes employees who are entitled to wages and superannuation under the Fair Entitlements Guarantee (FEG).
4. Unsecured creditors: Next comes the creditors who don’t have secured interests in the business, such as suppliers and contractors.
5. Shareholders: Those with a share in the business are last to be paid and will only receive payments once the rest of the creditors' claims against the company are finalised.

This process keeps everything fair and makes sure that every party is compensated in a standardised order.

Let’s touch on some of the potential consequences of voluntary or insolvent liquidation for businesses and individuals:

• The closure of the business - In almost all cases, liquidating assets to pay off creditors coincides with the closing of the business. In these cases, the director loses authority over the direction of the company as they hand over responsibility to the liquidator.
• Employee impact - Sadly, liquidation often equals the loss of jobs. However, as employees are high on the priority list of payments for creditors, they will typically receive lost wages and superannuation payments.
• Liability for directors - Directors are usually protected from their company’s insolvency. However, they can be held liable if they’ve breached their duties, traded while insolvent, or provided personal guarantees for loans.
• Debt write-off - If the liquidation of the company doesn’t cover the money owed to the creditors, the remaining debt will usually be written off. This means that creditors might only receive a portion of what they’re owed.

Liquidation can be an uncomfortable prospect, but remember that it’s a last resort and, in many cases, avoidable with the right approach. Here are four golden rules to stay resilient, scale with confidence, and stay on the right side of profitability:

• Stress-test your cash flow - Don’t just track your income. Simulate worst-case scenarios like a client refusing to pay and prepare for it to see how your business would cope. With this, you can spot vulnerabilities before they become dangerous.
• Adapt and innovate - Market conditions are always subject to change. Remain flexible and use data to your advantage to update your offering, adjust pricing and expand into new markets.
• Focus on the customer - Customer loyalty equals a constant stream of revenue and steady growth. Listen to feedback and look for new ways you can optimise the sales funnel to increase customer lifetime value.
• Get the best out of technology - Digital tools like Salesforce Commerce Cloud can automate tedious tasks, enhance decision making and provide valuable customer insights, giving you more time (and data) to deliver outstanding customer experiences.

Liquidation can be a complex and difficult process, but it’s a valuable way to make a financially safe exit when a company is no longer growing.

That said, it’s also a last resort, and often avoidable. By taking proactive steps to maintain financial resiliency, it’s possible (if not always a cakewalk) to stay profitable and extend your business’s time in the sun.

Making the most out of new technology is one of the best ways to improve your bottom line over the short and long term. Salesforce Commerce Cloud can unify your customer data, streamline order management, and help you engage and convert customers through the entire sales pipeline. Watch the demo today to see how our solution can help.