The Difference between Liquidation and Administration
We are often asked about the difference between Administration and Liquidation and when one should be used rather than the other. Both are formal insolvency procedures which deal with an insolvent company, however there are significant differences between the two.
The primary difference between them is that a Liquidation is the process of selling/realising assets once a company has ceased trading, and before dissolving the company, whereas an Administration provides an opportunity to rescue the business as a going concern, in full or in part.
Administration is a formal insolvency process which places a company under the control of an Insolvency Practitioner and the protection of the court. A ‘Notice of Intention to Appoint’ or ‘Notice of Appointment’ can be filed at court by the Director(s), qualifying floating charge holder, a company, or creditor to commence the process of Administration.
The Administration process has three potential ‘statutory purposes’. The first would be to rescue the business as a going concern; if that is not possible then the second would be to achieve a better outcome for creditors than in liquidation. If both of these cannot be achieved then it would be to realise property or assets in order to distribute funds to one or more secured or preferential creditors.
It is important to note an alternative rescue mechanism for a company is a Company Voluntary Arrangement (CVA). Our article Company Voluntary Arrangements (CVAs) – A Basic Guide outlines how a CVA might work for a company in distress. In some circumstances the Administration can be used to restructure a business ahead of entering into a CVA.
The Application to Court for an Administration triggers an interim moratorium. This protects the company by pausing creditor action whilst the business continues to trade, thereby giving the Administrator an opportunity to review the company and decide its options and its business without creditor pressure.
One form of Administration is known as a “Pre-pack”. This involves the valuation of assets and negotiating a sale of the business as a going concern before the appointment of the administrator. Once the administrator is appointed, the business is sold immediately, sometimes purchased by the existing Directors at the same time, who will usually continue trading without the loss of jobs, but ensuring the maximum return to creditors and not damaging the goodwill of the business. Also, because the sale and transfer is planned ahead of time, and takes place immediately on the company entering Administration, there is minimal disruption to trade or customers.
A company can remain in Administration for up to one year, which can be extended by agreement with creditors.
There are two types of insolvent liquidation;
Creditors’ Voluntary Liquidation (CVL) – is where a company is insolvent and the directors and shareholders choose to close it down, instructing an Insolvency Practitioner to act as Liquidator.
Compulsory Liquidation – is where a company is insolvent and one or more creditors force it into closure via a winding up petition to the Court. In these cases the Official Receiver will be appointed Liquidator on the making of the Winding Up Order, but an insolvency practitioner can be appointed by creditors at a later date if there are assets to recover and realise.
In liquidation the company’s assets (if any) are realised to pay the costs of the Liquidation and then distributed to its creditors. A Liquidator also has a duty to investigate the affairs of the company and conduct of the directors, and file a confidential report as appropriate. There is no set length of time for a liquidation, as it depends upon the amount of work to be carried out by the Liquidator. Most are usually completed within 12 months, but some last for a number of years. Once the liquidation is closed the company is dissolved at Companies House.
If Directors are in a position to purchase back assets and goodwill at market value, they can start trading again using a different company. This can be a lifeline for the business and effectively allows the business to carry on operations under a new company name, whilst keeping the same employees, assets and contracts. However in this scenario directors need to consider a number of important legal requirements. You can read more about being a director of a limited company here and to re-using the same name here.
Note – you may have heard of a Members’ Voluntary Liquidation (MVL) – this is a solvent Liquidation of a company resulting in creditors being paid in full and a return to shareholders. You can read our article explaining the MVL process here.
Main differences between a Liquidation and Administration
In both Administration and Liquidation, a company will be insolvent, in that its liabilities will exceed its assets or it is unable to pay its debts as they fall due. Identifying which process is most suited and relevant to the situation in which the company finds itself, is governed by the likely fate of the company and should be based on carefully considered professional advice from an Insolvency Practitioner. If a company’s trading position is affected by cash flow problems and creditor pressure, but the underlying business is viable, then rescuing it through Administration may be more appropriate. However, if there is no hope for the company’s future, it should be wound up and assets realised for the benefit of creditors. This will also help to protect its director(s) from any ‘wrongful trading’ or ‘misfeasance’ claims.
An Insolvency Practitioner is legally obliged to act in the best interest of creditors and their main concern in Liquidation and Administration will be to maximise creditor returns. In an Administration, the rescue and recovery of the business will also be paramount, if that is the statutory purpose the Insolvency Practitioner decides is most appropriate.
Whenever a company is or is likely to become insolvent and being threatened by creditors, it is imperative for its directors to consult a licensed Insolvency Practitioner as soon as possible.
Establishing the correct path to take can be daunting, but being pro-active at the first sign of trouble will minimise the likelihood of wrongful trading action at a later date. It will also leave more options for the directors and Insolvency Practitioner to devise a rescue strategy for the company.