When a company is heading towards liquidation, its directors may consider selling the business, or some of its assets, to a third party before the liquidation formally begins. There may be legitimate commercial reasons for doing so. For example, the sale might form part of a restructuring plan, such as a “hive down”. It may also raise funds to pay creditors or help preserve the business as a going concern.
Pre-liquidation sales are likely to attract close scrutiny. This is particularly true where assets are sold or transferred to a related party or company, or a buyer considered to be “friendly” to the directors or shareholders. In those circumstances, questions may be asked about whether the sale was a genuine commercial transaction, whether the company received proper value, and whether the directors acted in the company’s best interests. There may also be concerns that the sale was intended to put assets beyond the reach of creditors.
Unless the transaction forms part of a properly structured “hive down”, which is considered separately in this article (Hive down: The wrong way, and the right way), a pre-liquidation sale can create significant legal and commercial risks for directors and buyers together. Directors may face personal liability, while purchasers may later find that the transaction is challenged or that a liquidator seeks to recover the assets or bring other claims.
Sale transaction(s) review
As insolvency in New Zealand is subject to a regulation, an appointed practitioner is required to investigate the company’s affairs, including any sale of the business or its assets completed prior to the appointment.
The appointment of a liquidator does not automatically reverse or invalidate a sale completed before the liquidation. However, the liquidator may review the transaction, investigate the circumstances surrounding it, obtain an independent valuation of the business or assets sold, and consider whether there are grounds to seek recovery or pursue a clawback claim.
If any obligations under the sale agreement remain outstanding, including the purchaser’s obligation to pay, the liquidator may also consider the Company’s rights and remedies under the agreement. Depending on the terms of the agreement and the circumstances, this could include enforcing the purchaser’s obligations or terminating the agreement if the purchaser fails to perform.
What will the liquidator review?
Following the appointment, the liquidators will ordinarily obtain and review the company’s books and records relating to any pre-liquidation sale, including the sale and purchase agreement (SPA). This allows the liquidators to establish which assets were included in the sale, the consideration attributed to those assets, and whether any assets were excluded from the transaction and remained available for the liquidators to realise.
Where the business was sold as a going concern, the liquidators will generally seek to understand the overall value transferred to the purchaser and whether all assets forming part of the business were appropriately identified and reflected in the sale.
Importantly, this exercise should not be limited to tangible assets. Goodwill, intellectual property or other intangible assets may also represent a significant part of the value of the business.
Risks for directors and purchasers
Directors
If a business is sold for less than its market value, liquidators will examine how the price was set, whether the sale was properly marketed, whether an independent valuation was obtained and whether the directors acted in the company’s best interests.
A low sale price does not automatically mean the directors breached their duties. However, if the company suffered loss because of a breach, the directors may face personal liability for that loss.
Purchasers
The position of the purchaser is different. Buying a business before liquidation does not necessarily provide certainty that the transaction will remain beyond scrutiny once a liquidator is appointed.
One of the principal provisions available to liquidators is section 297 of the Companies Act 1993, which deals with transactions at undervalue. Broadly, where the statutory requirements are satisfied, a liquidator may seek to recover the difference between the value transferred and the consideration paid.
Liquidators may also seek the return of assets that were not properly included in the sale, enforce unpaid obligations under the SPA, or pursue other available remedies.
This is particularly important where the purchaser has taken or continues to use intangible assets such as intellectual property including customer databases, websites, domains or social media accounts without clearly paying for them.
How a sale may be challenged
Depending on the circumstances, liquidators may investigate whether the transaction was:
- A transaction at undervalue under section 297 (for more details see this article)
- A voidable transaction under section 292 (for more details see this article)
- A related-party transaction involving a director or connected person
Directors should obtain advice, consider an independent valuation, document the reasons for the sale and clearly identify the assets being transferred. Purchasers should carry out due diligence and ensure the SPA accurately records what is being bought and the price paid.
If you have any questions or enquiries, please do not hesitate to contact the team at Waterstone. To get in touch with our team, please contact us at reception@waterstone.co.nz or call 0800 256 733.
