A Quick Guide to Liquidation of a Company

Contents

• The concept of Limited Liability
• What is liquidation?
• Liquidation vs. Deregistration
• The liquidation process
  • Voluntary winding-up
  • By order of Court 
• Application to Court
  • Notice and Service
  • Legal Costs
• Winding-up Process
  • Creditors Meetings
  • Liquidator's function
  • The Liquidation and Distribution Account
  • Inspection and Confirmation
  • Ranking of creditors in a liquidation
    • Secured Creditors
    • Preferred Creditors
    • Concurrent Creditors
• Liquidator's Fees

The concept of Limited Liability

The first aspect we need to address is the concept of limited liability. Any Closed Corporation or Company is considered to be a legal entity. As such, they contract with third parties, including their creditors, through mandated persons such as the members of a Close Corporation or the Directors of a Company. When these people enter into contracts on behalf of the Company or Close Corporation, they do so in their appointed capacities and do not bind themselves in their personal capacity. 

Therefore, as a general rule, any resulting liability is exclusively limited to the legal entity. However, under certain circumstances, individuals can incur personal liability by binding themselves as surety or through reckless trading.The whole concept of limited liability is to allow a person to limit their risk to whatever time, effort, and funds they invested in the business.

What is liquidation?

Liquidation is the legal process prescribed in legislation, during which all the company or corporation's assets are sold and turned into cash for distribution amongst its creditors. During this process, the Master of the High will appoint an independent liquidator to take charge of the estate, ensure that the relevant comply with the prescribed legislation, and cease all business activities.

The Close Corporations Act directs that the Companies Act, 1973 be applied for liquidating a Close Corporation. Therefore, we will only deal with a company liquidation from this point onwards. The Companies Act 1973 was repealed and replaced by the Companies Act, 2008, which only prescribes the process to be followed for the liquidation of a solvent company and refers back to the relevant sections of the Companies Act, 1973 for liquidating an insolvent company.

Liquidation vs. Deregistration

Both procedures result in the dissolution of a company. However, the processes they require and the effects are significantly different. For example, if your company is no longer doing business and ceases to operate, you can consider deregistration provided it has no assets or outstanding liabilities. This represents a relatively cheap and inexpensive way to dissolve your company at the Companies and Intellectual Property Commission (CIPC). 

Deregistration can occur in two ways:

• Once the company has ceased to operate and has no assets, the company or a third party may formally request that it be deregistered, provided there is no reasonable probability of the entity being liquidated. The process usually takes up to 6 months and once deregistered the entity's name is removed from the CIPC's database.
• Secondly, section (3)(a)(i) of the Companies Act, 2008 states that when two or more successive Annual Returns are outstanding, a company may be deregistered automatically due to Annual Return non-compliance. 

Suppose a company is deregistered with outstanding debt. In such a case, the legal persona dissipates, and the company ceases to be a legal entity. As a result, any company director immediately becomes liable for payment of the debt in their personal capacity. In addition, the company assets are forfeited to the state as bona vacantia assets at the time of deregistration. 

Therefore, if your business has assets, outstanding liabilities, or both, you must follow the liquidation route. Do note that solvent companies must be liquidated in terms of the Companies Act, 2008. However, the remainder of the article will be dedicated to the liquidation of insolvent companies in terms of the Companies Act, 1973.

The liquidation process

The liquidation process may be initiated either by way of a Special Resolution or by way of a High Court Application. Each process has its own unique pros and cons. Therefore, great care should be taken when choosing which approach to initiate. The wrong choice and timing could easily lead to unanticipated consequences, such as incurring personal liability for debts of the company, contraventions in terms of the Insolvency Act, 1936 and Companies Act, 1973, or penal cost orders. 

Therefore, it is imperative to discuss any anticipated liquidation with an expert with adequate experience.

Voluntary winding-up 

Any company must at least have one member. A person's shares in the company do not make them a company member. A shareholder only becomes a member once their name is entered into the company's register of members or if they subscribed to the constitution of the company.

A company may commence with liquidation proceedings by calling a general meeting to propose a special resolution in terms of section 349 to be wound-up. To be able to consider the resolution, members holding at least one-fourth (25%) of the voting rights must be present or represented, and to pass the special resolution, at least three-fourths (75%) of those present must vote in favour thereof. The Registrar must then register the special resolution within one month before it becomes of force and effect.

The process is referred to as a voluntary winding-up and may be initiated by members or creditors. Do note: when dealing with a members' voluntary winding-up before the registration of the special resolution:

• Security must be furnished to the Master of the High Court's satisfaction for payment of all the debts of the company within twelve months; or
• The Master may dispense with the furnishing of security based on a director's sworn statement that the company has no debts and a certificate by the company's auditor confirms the same. 

By Order of Court 

Only eight grounds allow a Court to issue an order for a company to be wound up. These are: 

1. if the company passed a special resolution to be wound-up by the court;
2. if, before the Registrar certified that the company was entitled to, the company commenced business;
3. if the company suspended its business for a whole year or if it did not start business within 12 months from its incorporation;
4. if, in the case of a public company, the number of members becomes less than seven;
5. if the issued share capital of seventy-five percent has become useless for the business of the company, has been lost;
6. if the company is deemed unable to pay its debts as described in section 345;
7. if an external company is dissolved in the country in which it has been incorporated,  or ceased to carry on business, or is only doing so to wind up its affairs;
8. if it appears to be just and equitable to the court that the company should be wound up.

Application to Court

The company, one or more of its members, or a creditor may apply to the High Court under whose jurisdiction the company's registered address falls for the winding-up of a company. 

The application is made on a Founding Affidavit under oath, which must be accompanied by a certificate issued by the Master of the High Court, confirming that sufficient security has been given to cover the administrative costs until the appointment of the provisional liquidator. The security is to be issued not more than ten days before the date of the application.

Notice and Service 

Before the application is presented to the court, a complete copy of the entire application must be filed at the nearest Master of the High Court.

Furthermore, the applicant must also file an affidavit by the person who furnished a copy of the application to:

• to the employees of the company;
• to every lawfully registered trade union that represents any of the employees
• to SARS, the South African Revenue Service; and
• to the company, unless the company makes the application.,

Legal Costs  

Once the company's assets have been sold, the proceeds will first be allocated for payment of the administrative costs associated with the winding up of the company, which includes the legal costs of the liquidation application. Any residue funds will then be allocated for payment of the claims of creditors in accordance with the Insolvency Act, 1936, before any distribution occurs amongst the members according to their rights and interests in the company.

Winding-up Process

The Master of the High Court will usually appoint one or more provisional liquidators. An appointment will be made based on creditor support in number and value, and a PDI (previously disadvantaged individual) appointment will be made according to an alphabetical list. In the absence of any nomination by creditors, only a PDI appointment will occur.

Creditors Meetings

The Master must summon a meeting of creditors as soon as possible after the final winding-up order is granted. Usually, the first meeting takes place within eight weeks of the final liquidation. The First Meeting of Creditors enable creditors to lodge and prove their claims, then nominate and vote for the appointment of the final liquidators.

The Master will publish a notice in the Government Gazette and may oblige the liquidators to give notice of the meeting to creditors, but this seldom happens. Creditors will be afforded a further opportunity to prove their claims. After adjourning the First Meeting of Creditors, the Master will appoint the final liquidators.  

The liquidator tasked with the day-to-day administration proceeds to convene the second meeting of creditors, which by law, must be held within three months of the liquidators' final appointment. The liquidator may also convene a further special meeting for creditors to prove late claims if so required.  

Creditor's Claims

Any claim takes the form of an affidavit, to be sworn to under oath. It must be accompanied by supporting documentation, such as a copy of the original invoice. Only creditors who submit successfully proven claims may benefit from the distribution of any funds.

Liquidator's function

The liquidator's primary role is to administer and wind down the company's affairs. In addition, the liquidator must realise all assets via public auction or private sale before attending to the distribution of the proceeds to creditors. The Insolvency Act stipulates the creditors' ranking order as discussed below. The entire process could easily take eight months to two years, depending on the company's complexity and the types of assets to be realised. If the liquidators need to embark on litigation, this process can extend for several years. 

Once a company has been liquidated, it ceases to trade unless continued trading is necessary, or in the best interests of the creditors (e.g., because the liquidators want to sell the business as a going concern or because specific contracts need to be continued with to generate funds for creditors). Continued trading must be sanctioned by the court or creditors and shareholders.

The Liquidation and Distribution Account

The liquidators must lodge their first liquidation and distribution account within six months of their appointment as final liquidators. If the assets have all been realised and there are no unresolved issues, it will be referred to as a First and Final Liquidation and Distribution Account. 

If it's not the final account, the liquidator must either submit an account every six months until the process is complete or apply for an extension of time in appropriate circumstances. In the account, the liquidator sets out the details of the funds received from selling the assets, all expenses they incurred, and how the funds are to be distributed.

Inspection and Confirmation

Account appears correct,  they will permit the liquidators to advertise that the account will be open for inspection by creditors for a period of 14 days. Then, although creditors may inspect the account and raise objections if there is no objection, the Master will proceed to confirm the account. This usually takes up to two months after the expiry of the advertising period. The liquidator will then give notice of the confirmation by advertisement in the Government Gazette.

After that, the liquidator will distribute any funds that may be available for distribution. If a contribution by a creditor is required (when the assets realise insufficient funds to cover the liquidation costs), it becomes payable. After the company affairs have been entirely wound-up, the Master will transmit a certificate to the liquidator and the CIPC. The CIPC publishes a notice to this effect in the Government Gazette and records the dissolution of the company.

Ranking of creditors in a liquidation 

There are three distinct types of creditors: 

Secured Creditors

Secured creditors consistently rank first. They hold security for payment of their claims, usually in the form of a mortgage, landlord's hypothec, pledge, or right of retention. They will be paid from the proceeds of the sale of the specific secured asset. All types of security, apart from general notarial bonds, if validly created, constitute the security interest holder as a secured creditor concerning the secure asset.

No priority exists among the secured creditors, as each secured creditor has a secured claim relating to a specific asset. Should more than one creditors have security over the same asset, the one granted security first usually has a higher-ranking claim regarding the proceeds of that asset. Where a secured creditor's claim is not fully satisfied, the unpaid balance is considered a concurrent claim.

Preferred creditors

Preferred creditors do not hold any specific security for their claims. Still, they are ranked above concurrent creditors due to legislation. Accordingly, they will be paid first from the proceeds of the unencumbered assets in sequential order as stipulated by the Insolvency Act. Employees' remuneration (limited to a certain amount), SARS claims, and municipal taxes are the most common preferred creditors. In addition, the holder of an unperfected general notarial bond is also a preferred creditor.

Concurrent creditors

Concurrent creditors are the last to get paid from the proceeds of the unencumbered assets that remained after the preferred creditors got paid. They will be paid in pro-rata proportion to their claims. Should any amount remains after the payment of all concurrent claims, it will be used to pay the interest that accrued on the concurrent claims, calculated from the date of liquidation to the date of payment.

Liquidator's Fees

The Insolvency Act, 1936 (as amended) prescribes the liquidator's remuneration, which is calculated as a percentage of the amount realised. The percentage varies according to the different classes of assets:

1% on funds found (bank accounts)

3% on immovable assets (real estate)

5% on encumbered assets (financed vehicles)

10% on movable assets and debtors collected

Conclusion 

There are many considerations to be taken into account when a company considers liquidation, such as whether to proceed by special resolution or by application to the court. There are also costs considerations to take into account and all the possible resulting ramifications. It is best to consult an expert in this field - Contact us at info@gmilaw.co.za for more information and professional assistance to avoid the costly pitfalls of liquidation proceedings and the winding up of your company.

_{Copyright © 2023 Rohan Lamprecht. Disclaimer: The information in this article is of a general nature for educational purposes only, relevant to the publishing date. Any opinions expressed are solely those of the author and do not necessarily reflect the views or opinions of Grobler Malope Inc. The content is not intended to constitute professional or legal advice, and you are encouraged to call and consult with our attorneys to discuss your specific situation before making any decisions. Grobler Malope Inc - 087 057 1790 - info@gmilaw.co.za}