What is Insolvency
When a company is unable to pay its debts as they fall due or its liabilities exceed its assets, it is considered to be insolvent, and steps can be taken to protect creditors from real or potential financial losses.
There are three main avenues of action: Receivership and/or Liquidation and Voluntary Administration.
In a receivership the assets are realised for the benefit of the secured creditor who made the appointment.
In a liquidation the assets are realised for the benefit of all creditors, with some creditors having preferential or secured status, with the remainder being unsecured.
It is also possible for a distressed company to seek Voluntary Administration, a legal avenue designed to benefit all creditors and give a better return than would be possible in a liquidation.
The Receiverships Act 1993 establishes the law pertaining to all receiverships.
Where a company has given any other party a security over its assets that secured creditor may appoint a Receiver should the company default under the terms of the security.
When a company is “in receivership” the existing management of the company relinquishes control of most of the company’s assets in favour of the appointed receiver. The receiver then acts solely on behalf of the party that instigated the receivership, focusing on realising as much value as possible from those assets that provided security for the debt now in default.
The appointment of a receiver stops the company’s directors from taking any further actions involving the company’s business and assets caught up in the receivership, although they do retain some aspects of authority over any assets outside the scope of the receivership.
The receiver will start work immediately to monitor the company’s activities and assess its future viability. Emphasis will be given to any part of the business that can be sold as a going concern to secure a better price in the market than would likely be possible for distressed sales of individual assets. Typically, the assets sold by the receiver to satisfy the debt default are crucial to the ongoing performance of the company in receivership, and the only option left after receivership is liquidation. If so, the receiver will withdraw and hand over any remaining assets to the liquidator, who will sell them and use the resulting funds to repay other creditors as per a priority order stipulated in law, and then wind up the company.
It is possible, albeit rare, that a company could continue in business after receivership. If all costs and debts related to the receivership have been paid in full, the company’s directors can resume control of the company and continue trading.
The Companies Act 1993 sets out procedures for liquidating a company.
Liquidation can occur voluntarily or by court order where it has been established that a company is unable to pay its debts as they fall due. It may be initiated by the distressed company’s shareholders, the court, or its board of directors.
Once the liquidator takes control, all of the unsecured assets within the company are for immediate sale at whatever prices can be mustered. Proceeds from such sales go to the company’s creditors, with regard to the prior rights of preferential and secured creditors.
The liquidator also has powers of investigation into payments made prior to liquidation (possibly voidable) and the actions of directors leading up to the liquidation. Legal actions for recovery may result in these instances.
When the liquidation is complete the liquidator informs the Registrar of Companies and the company is removed (struck off) from the New Zealand companies register.
Should there be surplus funds after all creditors have been repaid in full, such monies will be handed over to the company’s shareholders in accordance with their ownership rights.
What is Voluntary Administration?
The process of voluntary administration was introduced into New Zealand company law as a business rehabilitation scheme on 1 November 2007.
Voluntary administration gives a distressed company breathing space from its creditors while an appointed administrator reviews and rearranges a company’s affairs with the intention of avoiding liquidation.
It is intended to be a relatively short-term measure that freezes the company’s financial position while the administrator and the distressed company’s creditors determine the company’s future.
An administrator takes full control of the company to try to determine how to save either the company or its business. The aim is to obtain a better return to creditors than they would have received if the company had been placed straight into liquidation.
One option is for the creditors to agree to a deed of company arrangement, whereby they are paid a percentage of the debt on agreed dates.
Other outcomes are for the administrator to return the company to the control of its directors, or to appoint a liquidator with immediate effect.
