When it comes to the success or failure of an organisation, we rarely hear about the failed endeavours. But what happens when a company is in financial strife? Is there anything that can be done or anyone to turn to?
There are special circumstances when a solvency process is implemented when the company hits a certain point of financial strife. The point is to help these companies, through the use of an independent expert, solve those issues quickly.
This process is unique in that it not only serves the interests of the creditors but stakeholders as well. There are more than a few reasons to consider this process, but first we must know more about it.
What Is Voluntary Administration?
Before we can get into the various reasons why it is a good idea, we must first understand what voluntary administration is. With a better understanding, we can clearly identify the benefits of using such a process.
Voluntary administration is a process meant to prevent a company from having to liquify assets to create space between the company and creditors. All with the purpose of giving the company time to potentially restructure.
The process generally takes about a month. In that time, an independent administrator will then take control of the company’s financial decisions. The administrator will take control of the assets and then assess the business as a whole. All of which results in a recommendation to the creditors as to what the best course of action may be.
From there, the creditors can choose between executing a Deed of Company Arrangement (DOCA), returning control to the directors, or liquidating the company. If your company has been considering this process, there are more than a few good reasons why you should consider going the route of voluntary administration.
Resolving Issues with Creditors
Perhaps the most important thing about this process is that it has the aim of resolving issues with outstanding creditors. Unfortunately, when a company hits financial strife, they typically struggle to stay afloat before eventually liquidating assets and going out of business.
But this process is meant to essentially hit the pause button when it comes to creditors. It gives the company the time that it needs to figure out what the best course of action is. Sometimes, that best course is to liquidate the company, but it can potentially offer time for some breathing room to be created between company and creditors that may not have been available otherwise.
Voluntary administration also means the chance to bring in an expert to assess the damage. The administrator then takes an extremely close look at the assets and operations of the company. The goal is to create a recommendation for resolving the issue in a favourable way to the creditors.
There are a number of ways that the administrator can decide to go in. They may suggest resolving the outstanding issues with creditors instead of directly reacting to the actions of creditors, any market conditions that may impact the issue, and other market factors.
Creditors will also have the time to review what is happening within the business thanks to the administrator’s reports. They will not only get a chance to find out exactly what is happening within the company, but to take a vote on whatever the administrator recommends. This may mean ultimately liquidating the company, returning to trading under the current set of directors, or a DOCA (as mentioned above).
Avoiding Trading While Insolvent
When situations such as this occur, it means that the company is insolvent. Basically, it means that the company is unable to pay their debts. There are a plethora of reasons why something like this may happen but the result is the same: it is not good.
During this time, directors have a legal obligation to take measures that prevent and avoid insolvent trading. If trading is done during a period of insolvency, the consequences can be quite severe and make the situation infinitely worse.
Voluntary administration is used by businesses that are in trouble to help them prevent insolvent trading. Simply by starting the voluntary administration process, directors of the company can show that they took the steps necessary to prevent insolvent trading. This is done through the appointment of the administrator, which also means taking on any additional debt.
Being in a situation of financial trouble or owing a large debt to creditors is a bad enough situation. But trading while insolvent can result in far more trouble. Part of the voluntary administration process is simply about protecting the business from getting itself into any more trouble.
The misconception about businesses in trouble with creditors is that they don’t have value. But the aim of voluntary administration is to give these companies that are in trouble but otherwise look like viable businesses to take a step back, restructure, and potentially survive.
There is another reason and aim to voluntary administration as well. That is to redirect the affairs of the company in such a way that it leads to a better outcome for creditors than if the company gets liquidated entirely.
This break can be invaluable to both the company and creditors. Having access to the advice from the administrator gives the opportunity to enter a Deed of Company Arrangement or DOCA.
A DOCA is one of the three possible outcomes when reaching voluntary administration. One of the major benefits of the DOCA is that it provides major flexibility. It gives the potential for a compromise on company debts to the creditors. Generally speaking, through a DOCA a company can pay either part or all of its debts, ultimately becoming free from those debts.
The good thing about a DOCA is that it can incorporate a few different arrangements. Perhaps it means a lump sum to pay all of the agreed upon debts that are due. It may also mean installment payments or even a sale of assets to pay back some or all of the debts with the proceeds of the sale. It could also authorise a return to trading while simultaneously making lump or installment payments from a final sale. It could even include relisting the company on the trading exchange.
Even if they voted against it, unsecured creditors are bound to the DOCA. That said, it does not prevent those creditors that have personal guarantees from a company director or a similar person in the position to take action from collecting their debt.
The ultimate goal of voluntary administration is to prevent liquidation. Yes, it is a possible outcome for situations such as these, but it is not the goal. The administration process is meant to give the company the proper chance to assess where they stand and whether another option may be viable.
Should there be other options available, the creditors will have a chance to vote on the best solution. That may still wind up being liquidation depending on the recommendation of the voluntary administrator.
The ultimate goal, remember, is to provide the best outcome for the creditors. If the DOCA or even returning control to the company’s directors is seen as more desirable than liquidation, then this process gives the company the chance to live on and fight another day rather than face liquidation.
Remember that these creditors want to collect on their debts. Liquidation will likely yield some return but not all of the debts. Keeping the business alive to repay their debts is likely going to be the best course of action in the end.
Protecting From Penalties
Companies that have insolvency and cash flow issues may be falling behind on what is known as ATO-related compliance. Perhaps they have outstanding superannuation and tax liabilities. For this purpose, the ATO would have the discretion to pursue the company’s directors seeking the unpaid superannuation and tax through what is known as director penalty notices or DPN.
That said, putting the company into a voluntary administration would potentially help if the DPN is related to sums that have been reported but have yet to be repaid to the ATO within three months of the very end of the reporting period. Should the amounts owed be unpaid and unreported during that three-month period, then the voluntary administration wouldn’t be able to reduce the risk of DPN or personal liability.
It is never a good or enjoyable situation for a company to find itself in financial trouble. Without proper help, a company that has outstanding debts to its creditors can find the experience to be akin to fighting through quicksand.
The voluntary administration is meant to give the company the time it needs to figure out how to pay creditors. In some instances, there is no possible way and the company must be liquidated. But the administrator will work hand in hand with the creditors to determine whether or not that is the best course of action for the creditors.