What is Liquidation?
The term “liquidation” refers to selling off business assets and distributing the money among the claimants. Such an event usually occurs when a company becomes insolvent, which means it cannot pay its debts and other obligations on time. Hence, the money generated from Liquidation is used to pay back the shareholders and the creditors. In short, the company assets are disposed of for settling the liabilities, such as debts, payables, and other business obligations. In some cases, it is referred to as dissolution or winding-up.
Some of the key takeaways of the article are:
- It is the process of dissolving a company by selling off its assets to settle its liabilities. The owners and the shareholders get to keep only what is left.
- It involves selling off inventory and other business assets, usually at steep discounts.
- After Liquidation, the entity ceases to exist and is taken off the company registrar.
- Some of the significant reasons behind Liquidation include inadequate cash flow generation, poor operational performance, the exit of the investors, and indebtedness.
How does Liquidation work?
A typical business liquidation process involves the following steps (not exhaustive):
- The directors or management decide to liquidate a business for various reasons, such as inadequate cash flow. Alternatively, a court may initiate a dissolution order in the case of compulsory Liquidation.
- An insolvency professional is appointed as the official liquidator who will take charge of the entire liquidation process.
- The owners are forced to relinquish their powers & authorities, and the insolvency professional takes them over.
- The assets to be liquidated are assessed by the insolvency professional before starting the liquidation process. In this stage, the liquidator verifies all information regarding the payables and debts of the company.
- Once the liquidation process is over, the authorized liquidator distributes the money among the claimants based on the priority of their orders.
- After the Liquidation, the subject company ceases to exist; hence, its name is taken off the company registrar.
Example of Liquidation
Now, let us look at some examples to understand the concept in the real world.
Marka was a UAE-based retail brand confirmed to be bankrupt by a local court, and all of its assets were brought into Liquidation. The legal notices were sent to the subsidiaries along with the parent company. The company’s directors and managers were stripped of all rights.
The board of directors was asked to hand over all the assets, funds, and documents within five days from the date of the court order. They were also asked to pay 448 million Dirhams. In addition, the directors were fined because they failed to manage the company and provide appropriate disclosure of the financial information to cover up severe cash flow problems.
In October 2021, a Singapore-based interior design company named Design Studio Group decided to wind up the business. The decision to wind up was voluntary, primarily driven by its inability to generate adequate cash flow to pay off the outstanding debts. In line with the Liquidation of the parent company, the subsidiary companies have also commenced the voluntary liquidation process. After the winding-up application, the company will no longer be able to resume trading its shares.
What assets can be liquidated?
Typically, it takes place as part of a bankruptcy filing process. In general, most businesses liquidate their inventory. However, many other business assets can also be liquidated. Such assets include vehicles, store fixtures, furniture, décor & decorations, art, wall hangings, machinery, tools, equipment, etc.
One of the most challenging parts of a liquidation process is that often there isn’t much time to sell off the assets. This eventually results in deep discounts, which means that the cash received in exchange for the assets is well below its market value. This is where liquidation specialists come into play, as they can help the buying companies purchase all the assets at once and then sell them off at a higher price in the market.
Some companies that are especially good in liquidation sales include Tuesday Morning, Big Lots, and Ollie’s. These companies usually buy the leftover inventory at a much lower price than its actual market price. Then they resell them at less than their retail price but still make a massive profit given that the purchase price is significantly lower than the retail price.
Advantages and Disadvantages of Liquidation
Below are some of the significant advantages and disadvantages.
Advantages of Liquidation
- It helps to end the sufferings of an insolvent business struggling to generate sufficient cash flow to cover the business obligations.
- The business owners are relieved from the pressure of the creditors, who the appointed insolvency professionals eventually handle.
- The employees of the liquidated companies may be able to claim unpaid compensations.
Disadvantages of Liquidation
- After the Liquidation, the companies will be barred from trading and operating using the same name again.
- The employees of the liquidated companies will probably lose their jobs.
- The business obligations owed to the suppliers beyond the owners’ capacity to pay will be written off, leading to losses for the suppliers.
So, it can be seen that Liquidation is a difficult decision for businesses as it involves severe consequences, such as permanent loss of employees, loss of reputation, etc. Most companies see it as a complete termination of future business opportunities. However, they unwillingly opt for Liquidation as a last resort to come out of business debts and obligations.
This is a guide to Liquidation. Here we also discuss the definitions, working, examples, and specialists, along with advantages and disadvantages. You may also have a look at the following articles to learn more –