Everyone knows that business affairs and personal finances should not be mixed; and that a business which is highly reliant on a key director is subject to extra risk. When the sole director of such a company died suddenly, leaving incomplete records which fail to properly explain significant asset transfers, and large debts to the tax department, the challenges involved in understanding the complexities of the business and recovering assets to meet creditors’ claims were enormous, as Worrells Brisbane partner Raj Khatri found out when he was appointed as liquidator to the company.
Ajax (not its real name) had been a profitable company; it had traded for many years in a specialised market where there were few competitors. An important contributing factor to the success of the business was the sole director’s ability to source essential materials overseas at competitive prices, and the “know how” about getting those materials into Australia. Unfortunately the director did not document this business knowledge, nor did he share it with any of the company’s senior employees.
The director’s consuming hobby was the owning, rebuilding and flying of vintage planes and he used company funds freely to pay for his hobby. At the date of liquidation around $1.5 million of the company’s funds had been committed to support the director’s hobby.
Presumably he rationalised this as being quite okay as he was not only the sole director of the company, he also held all of its issued shares.
The planes were initially registered to the company, but sometime prior to the appointment of the liquidators the registration of some of the planes were transferred into the name of a third party. No planes were physically in the possession of the company at the date of liquidation. Some planes were overseas being refurbished (including a B25 World War 2 bomber), but there were few records to explain what was to be done or the price agreed for that refurbishing work. The third party who had registration of the planes claimed that the director had either gifted the planes to him or had transferred them to him in exchange for unspecified support to be given to the director’s wife in future years, but was unable to provide any documentation to support either claim.
The books of the company had been kept reasonably up to date by the internal bookkeeper. The external accountant had done wonders to get BAS and income tax returns lodged but the bookkeeper was unable to influence the director to free up company funds to pay the debt accruing to the Australian Taxation Office, who inevitably moved to wind up the company.
The books of the company disclosed several large loans to a number of related people which have been built up over a period, from a number of transactions. One of the loans was to the director of the company who had passed away soon after the appointment of the liquidators. The other party denied any knowledge of the debt, and no loan agreement or debt acknowledgement was found among the company’s assets.
So how does a liquidator proceed in these circumstances?
Simply stated the duties of a liquidator are to find out what assets the company has (or should have), to liquidate those assets and to pay the creditors as far as the funds allow. In this case the challenges facing Raj included:
- finding out if it was possible to sell any part of the business
- selling those planes that the company clearly owned
- finding out what contractual arrangements had been made with the overseas refurbishes so as to free up the value in the planes being refurbished
- understanding why some planes were physically held by third parties and to deal with some third parties refusal to hand over the planes
- deciding what amount was due to the company (if any) by way of apparent loan to the third party and collecting that mount.
And all of this had to be done in circumstances of extremely limited documentation of the non business activities. Also, our experience is that some parties dealing with companies that end up in liquidation see the liquidator’s difficulty in defining what happened before his appointment as an opportunity to distort facts to their own benefit. That is, they are economical with the truth.
Although the business conducted by the company had been profitable the expertise and knowledge of the local staff was limited to what happened when materials landed in Australia. Despite his best efforts and the efforts of the company’s senior staff it proved impossible to rebuild the overseas supply links. As a result of this business operations ceased and the value of the goodwill of the business was lost to the creditors.
Substantial difficulty was met in dealing with the planes that were physically not held by the company. Such work is part and parcel of everyday challenges for a liquidator and involves taking appropriate legal actions, obtaining possession and eventually appointing a selling agent that has expertise in handling such assets.
Dealing with the plane refurbishers overseas proved to be more difficult. Initially they were reluctant to provide any information, perhaps believing that faced with the joint tyrannies of distance and cost the liquidator would simply abandon the planes. It was only when Raj attended in person and insisted on a full set of accounts, that any workable response was received. In the negotiations which ensued the lack of company documentation placed the liquidator in a difficult position. Although a sizable realisation was obtained costs could have been curtailed and a better result might have been achieved had the company kept better records of this matter.
It was necessary for the liquidator to obtain an injunction forbidding one of the third parties from disposing of the planes he held. That party was publicly examined and eventually conceded that the planes held by him were the property of the company.
The related third party who, according to the ledgers of the company, owed a substantial debt to the company took the position that they knew nothing of such a debt, that no documentation existed in relation to the debt and in the event that the liquidator could show the company had expended funds for their benefit that was done without their request or approval and as a result no debt existed. That party also claimed that they could not afford to repay the loan. The liquidator was able to show that the debtor did have the capacity to repay and was able to negotiate a partial repayment of the loan.
The business lessons to be drawn from this case are:
- Sole directors must document or share information vital to the company’s ongoing trading to ensure ongoing trading if the director becomes unavailable.
- Ideally non business assets should not be held by trading company
- Liquidators do not always receive cooperation and forthrightness from parties contracting with the company. According directors, particularly sole directors, are under an obligation to document all material transaction including transactions involving friends or relatives.
- Liquidators will not easily abandon company assets.
Over the next few editions of our e-Update we will look more closely at some of the more interesting elements of this liquidation.