The liquidation of a business may arise in relation to a sole proprietorship, a partnership, or a company. In addition, the business may be able to meet its debts or, alternatively, it may be insolvent.
The liquidation of a solvent sole proprietorship is dealt with in section 2 below. In the case of an insolvent situation, the provisions of the Insolvency Act, 1936 (Act 24 of 1936), will apply. This is a specialised topic, which is not discussed here.
The liquidation of solvent companies is dealt with in paragraph 3 below. Sections 337 to 426 of the Companies Act,1973 deal with the winding up (or liquidation) of companies, Section 343 provides that a company may be wound up (i) by the court, or (ii) voluntarily.
Section 344 of the Act lists the circumstances under which a company may be wound up by the court. This is referred to as a compulsory liquidation and will inter alia arise where a company is unable to pay its debts and application is made to court by a creditor or creditors, for the winding up of the company.
The alternative to a compulsory liquidation is a voluntary liquidation which may be either a creditor's voluntary liquidation, or a member's voluntary liquidation. In both cases, the company's members must pass a special resolution resolving that it be wound up; this has the advantage of avoiding a court application with concomitant costs. A creditor's voluntary liquidation will usually arise where a company's directors realise that it is insolvent. However, a members' voluntary liquidation occurs where a company is able to meet its debts, or has no debts. These two situations are dealt with in paragraph 3 below.
In general, where a business is liquidated, the various assets with the exception of cash, must be disposed of. The creditors of the business must be paid and the cash residue paid to the owner of the business. It is very unlikely that assets will realise their book values, as book values do not purport to reflect a market or a realisable value. Consequently a profit or loss on disposal is likely to arise in relation to each asset. This must be credited or debited to the owner's capital account.
This will be a somewhat cumbersome procedure when a business has a number of assets, and it is therefore preferable to transfer all assets (apart from cash) to a realisation account. Proceeds of disposal are then credited to the realisation account. When all the assets have been disposed of the balance on the realisation account, representing the net profit or loss on realisation, is transferred to the owner's capital. After payment of creditors, the balance of cash should equal the adjusted capital account. This is then paid over to the owner, thus effectively closing the books of the business.
In terms of section 350 of the Companies Act, a company may be voluntarily wound up by its members, without recourse to Court and by special resolution if:
Although the first situation may appear improbable, it is likely to be encountered quite frequently in the case of companies which are "dormant" (i.e. no longer trading), and which have paid all their liabilities. Very often the profits at these companies will have been drawn by the owners on loan account.
Where a company has a number of assets, it will be advisable to open a realization account (this may also be referred to as a liquidation account).
Very often such a liquidation may occur where the assets of a company (or some of them) are purchased by another company. The purchase consideration need not necessarily be paid in cash - for example, it could be wholly or partly paid in shares of the company purchasing the assets. It must be remembered that the liquidator needs to prepare accounts for the Master on the prescribed Liquidation Forms.