COVID-19 and Voluntary Liquidation

by Hassan Shah

As the novel coronavirus (COVID-19) has spread globally and its effects continue to unfold, markets continue to collapse on a daily basis all around the world. In the efforts to contain the spread, governments have introduced containment measures including orders to close down and significantly curtail business operations.

As a result, both locally and globally, a vast swathe of businesses are struggling to keep afloat. Hence, although the businesses have the option to consider seeking the help of the government’s Economic Recovery Package¹  to sustain their operations, rather than seeking vindication through the government announced such stimulus packages, there might be cases where some companies opt to file for voluntary liquidation. This blog post summarises the procedures under Maldivian laws to file for voluntary liquidation of a company. Further, a summary of the voluntary liquidation procedure is provided, that has to be followed during a circumstance of voluntary liquidation.

 
What is Voluntary Liquidation?

Liquidation or winding up is the process by which a company’s existence is brought to an end² , the assets of the company are brought into a liquid form, and the proceeds are distributed to those entitled. Voluntary liquidation is one of such winding up processes that does not involve court proceedings, i.e. is not made compulsory upon the company, and is instead instigated by the shareholders of the company.

 

When may a company be voluntarily liquidated?

A voluntary liquidation of a company may be initiated for a number of reasons. Some of the most common reasons for voluntary liquidation includes:

1. the company becomes insolvent. i.e., when the company does not have enough cash or assets that can settle the day-to-day liabilities or short or long term liabilities when they are due.
2. the objectives, for which the company was formed is achieved.
3. the shareholders are unable to work together and it is no longer civil to continue with the business

Liquidation process due to the insolvency may be either initiated by the directors of the company or by the creditors and can be determined by carrying out the following tests³:

1. Cashflow/Commercial Insolvency Test – this test is carried out to confirm whether there are creditors who are not being settled on time;
2. Balance Sheet Insolvency Test – this test is carried out to confirm whether the liabilities of the company is more than its assets.

COVID-19 and Voluntary Liquidation

As stated above, the directors of the company may opt to liquidate the company on a voluntary basis when the company is facing solvency issues. The probability of such an election is high during the pandemic, due to the cash flow issues compared to a normal functioning economy where the outcomes are predictable to an adequate level. 

Some of the companies may have a wide range of investments that may not have been victims of COVID-19, while some of the companies may be responsive to the market shift and strategies as required. We are currently witnessing the businesses moving towards a wireless operation, such as colleges and universities conducting classes by electronic learning methods. While some of the businesses are moving towards penetration to new markets, divestments or introduction of new products/services that fit their existing portfolios. 

As the businesses are usually inter-related to each other, an impact on a single business sector can have serious implications on the businesses by creating a snowball effect and affect the stakeholders who are associated down the chain. For example, a closure of a guest house business that has a main target customer base of foreigners, will have an impact on tour operators, employees, freelance service providers such as filmmakers and photographers and consultants. Thus having an impact on an individual’s disposable incomes, revenue and cash flow of the businesses.

Process of Voluntary Liquidation

The liquidation process in the Maldivian context can be summarised as follows. 

1. The board of directors passes a resolution to liquidate the company and subsequently the shareholders pass a special resolution concurring to the decision board of directors.
2. The liquidator makes a public announcement of the initiation of the liquidation and notifies the MIRA of the same.
3. Upon the completion of liquidation proceedings, the liquidator presents a report on the liquidation undertakings to an extraordinary general meeting of the shareholders. During the general meeting, the shareholder may accept the liquidators report and pass a special resolution. The decision is then communicated to the Registrar of Companies.

Tax Clearance

From 11 February 2020, companies are no longer required to submit a tax clearance report issued by the Maldives Inland Revenue Authority (MIRA), along with the liquidators report. This information is obtained by the Ministry of Economic Development (MoED) directly from the MIRA further to the submission of the Liquidator’s Report. Even though the process of obtaining the tax clearance report has changed, the company being liquidated should clear all the taxes and related payments, only after which the Registrar of Company will allow the liquidation of the company.

Upon the initiation of the liquidation process, the company ceases its business operation, except so far as may be required for its beneficial winding up. All the responsibilities of the company, including representing the legal cases, disposal of assets, settlement of liabilities, filing of tax returns should have to be carried out by the liquidator.

Who gets affected?

The decision to liquidate the company will have an impact on the internal and external stakeholders of the company. Below are some of the stakeholders who will be significantly affected during a voluntary liquidation due to insolvency: 

1. Shareholders – in privately held companies, the shareholders will be held liable up to the amount of share capital owned by each individual in the company. No individual should be held personally liable. 
2. Employees – the Employment Act³ provides for the process which must be adhered to when dealing with the employees of a company whose employment are terminated as a result of the liquidation of the company.
3. Creditors – insolvency may leave the creditors of the company with outstanding thereby causing cash flow issues for the creditors as well.

Who is paid and when?

A liquidation initiation due to the insolvency or unavailability of adequate liquid cash resources, the chances that some of the debts being unsettled is high. Upon the disposal of all the assets, the liquidator is required to settle the debts in the following order⁴:

1. Remuneration of the liquidator;
2. Payments due to government bodies or authorities;
3. Salary/wages due to the employees (excluding directors) for three months;
4. Balance payment should be shared on pari passu basis among the remaining debts.

It is important to note that the stakeholders may not be paid in full or to an adequate level, as a voluntary liquidation due to insolvency occurs due to cashflow issues and the fact that each of the shareholders in a limited liability company will be responsible for only to the extent the person invested in the company as shares value.

Closing

Liquidation process can be a lengthy process that may take months to complete due to the involvement of multiple stakeholders who might have claims and various filing and compliance requirements from the authorities. Ideally, board of directors are expected to discharge the responsibility to discharge the fiduciary duty to act on behalf of the shareholders and run the business in a smooth manner.

Some of the proactive steps that the directors can take includes:

• Conducting a periodic testing for insolvency;
• Reviewing the payable amounts towards government entities;
• Going for economic relief packages introduced;
• Minimising/deferring recurrent expenses and halting the investments;
• Carrying out of cost/benefit analysis of business segments and projections

As we may see a number of companies opting to voluntarily liquidate, we suggest all relevant stakeholders to keep a lookout for public notices on the liquidations, and take necessary steps to ensure that their rights are protected before its late.
 

If you need our assistance with respect to any matter related to the above, , please get in touch with one of the following members of our team to talk through how we can support you.

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