Harvard Business School states that when corporations face financial challenges, owners and directors typically try to liquidate all assets rather than trying to save the companies. But while corporate liquidation may be preferable to bankruptcy-based recovery for various reasons, it still presents many potential legal challenges. Entrepreneurs intent on liquidating and dissolving their corporations should be aware of these potential issues before they begin the process. An experienced business law attorney in Clearwater may be able to provide helpful guidance during this process. For example, entrepreneurs and owners may need to consider various issues related to resolving outstanding liabilities before distributing remaining assets back to shareholders. To expand upon this conversation, consider contacting Clearwater Business Law at (727) 502-6874. Our offices are conveniently located in Clearwater, Dunedin, Largo, New Port Richey, Oldsmar, Palm Harbor, Pinellas Park, St. Petersburg, and Tarpon Springs.
Why Choose Liquidation and Dissolution Instead of Saving the Company?
At first, Chapter 11 bankruptcy might seem interchangeable with liquidation. Both processes allow the corporation to settle debts and distribute remaining assets to shareholders, and both give companies an “exit route” during difficult times. However, completely liquidating all assets inevitably leads to the failure and dissolution of the corporation. On the other hand, the purpose of Chapter 11 bankruptcy is to give companies a second chance. So why do so many business leaders allow their companies to fail instead of successfully navigating the Chapter 11 bankruptcy process? As Harvard Business School alludes to, complete liquidation and dissolution may prevent creditors from receiving as many assets – thereby allowing shareholders to keep more assets for themselves.
A manager might streamline liquidation with fast approval from a judge, allowing for rapid asset sales before they lose value. When a business fails, the assets held by that business can rapidly decline. This highlights the need to sell the assets as fast as possible, potentially preserving more value for subsequent shareholder distributions. However, some argue that this approach harms creditors, employees, and junior shareholders. Dissolution might be the only option if the company does not have the funds to sustain operations.
Parties May Disagree on the Value of the Corporation
Business valuation can be quite complex, and there are many methods to consider. Parties may dispute the true value of the corporation depending on the business valuation method they choose. Some might have a vested interest in exaggerating or downplaying the value of the entire company and its specific assets. For example, a creditor might want to inflate the value of certain company assets and debts as they seek maximum returns. In the same way, shareholders might have their own reasons for disputing the value of the corporation and its assets as they seek to walk away with as much as possible.
Creditors May Argue Over Who Gets Priority
Another type of legal dispute that might arise during corporate liquidation involves creditors fighting for priority over debts. Business owners must follow complex steps when determining the order in which they pay their debts. For example, secured claims involve debts backed by collateral, and they usually involve formal contracts. These debts usually get first priority during liquidation, followed by unsecured claims.
Of course, shareholders are also “creditors” in this situation because they have the right to receive reimbursements equal to the value of their stocks during liquidations. However, shareholders rank among the lowest priority creditors and receive their distributions last. Often, there are no remaining assets to distribute to these shareholders after the resolution of higher priority liabilities. This is especially true for common equity shareholders, the lowest ranking shareholders of a corporation.
Allegations of Corporate Misconduct Are Common During Liquidations
When company directors make the difficult decision to liquidate and potentially dissolve the corporation, there may be those who disagree with this choice. Parties may accuse the company leadership of intentionally sabotaging operations, perhaps implying that the goal is to drain as much money from the corporation before moving onto the next target. CEOs often have highly attractive severance packages known as “golden parachutes.” They also walk away with lucrative bonuses and other benefits. Finally, some shareholders may be able to benefit more than other shareholders during asset sales. All of these issues and many others can lead to allegations of corporate misconduct, and this may trigger an official investigation. Florida law states that the Official Receiver or liquidator must conduct an investigation when a company fails.
These “liquidation investigations” may examine the past few years of company history to identify potential misconduct. Company leaders should know that these investigations may uncover problematic details, and they may consider working with an experienced business litigation attorney to pursue positive outcomes. Leaders might also need to explain why their company failed, and whether they could have done anything else to prevent this outcome. Investigators pay especially close attention to the nature of payments to creditors, dividend payments during the period of alleged failure, potential insider trading activity, and much more.
Liquidations Can Lead to Notable Tax Issues
Aside from legal issues, company leaders should also be aware of the tax implications of corporate liquidation. As the Florida Bar notes, liquidation can lead to taxable gains if a company depletes its stock basis before distributing all of its assets. Companies might also experience tax issues if they fail to pay off debts with cash, as this would increase the amount of remaining cash distributed to shareholders and therefore maximize the tax liability. An experienced business law firm like Clearwater Business Law may be able to expand on tax issues during corporate liquidation in more detail.
Learn More About Corporate Liquidation With Clearwater Business Law
While corporate liquidation in Florida can certainly present numerous legal issues, the nature of these issues depends entirely on each specific situation. One corporation may need to address considerable debts when liquidating, while another might have to contend with a complex shareholder arrangement. Due to these varying factors, online research might not provide the type of targeted guidance necessary. In contrast, an experienced business law attorney in Clearwater may be able to deliver personalized advice based on the needs of each corporation. Consider expanding upon this conversation by contacting Clearwater Business Law at (727) 502-6874. Aside from Clearwater, we also serve clients in cities across Florida.