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Liquidation and its Process

Discuss About The Ethical Decision And Reputation Management.

Liquidation may be defined as the process whereby the company decides to shut down its operations and then sell off all its assets to meet the liabilities of the creditors and pay them off with the cash recovered. There can be multiple reasons for liquidation or shutting down of the company. Some may be ordered by the court to do so on the request of the creditors or the directors of the company whereas in the other case, the company might wind up on the voluntary basis. It is virtually the end of going concern assumption of the company and there are many stakeholders who are impacted due to this including the shareholders, the employees, the creditors, the debtors, etc. There are various laws, rules and regulations in place which guide the process of liquidation as per which an official liquidator will be appointed to guide the overall process of liquidation (Belton, 2017). At times, it may be possible that the personal property of the owners of the business may also be attached for paying off the debt of the company. A company needs to avoid the situation of liquidation as it marks the end of existence of the company.

Liquidation is also called winding up and the directors of the company can propose to shut down operations in case the company has been in losses for quite some time (Alexander, 2016). There can be many other reasons too of liquidation like the business started with all the wrong reasons or it has been doing illegal activity or might be involved in fraudulent business practices which is detrimental to the interests of the society or the company might not have adequate working capital to operate or it might be located in inappropriate location or finally the company might be involved in the unethical practices or might not be in compliance with the laws, etc. All these factors individually or cumulatively may lead to liquidation. All these have been explained with the help of the real life examples in the analysis section of report (Bizfluent, 2017).

The analysis has been done with the help of 3 big companies namely ABC learning, One Tel Phone company and HIH Insurance company. ABC learning was one of the best providers of primary and secondary education in Australia in the past. It had a huge number of centres and was earning handsomely post which the new auditors were appointed in 2000 and the company got listed in the Australian Stock exchange with the massive market capitalization of $ 2.5 billion in 2006. However, it was found that the company was involved in a number of malpractices and unethical accounting and governance issues and thus the company had to liquidate (Bromwich & Scapens, 2016). It was primarily due to the huge debt which the company was not able to pay back on time and the auditors too did not highlight the same in the annual accounts due to which the company had to close in 2008. A huge number of investors and employees were affected. In the year 2009, the company was taken over by Goodyear Early Learning which currently has more than 650 centres in operation.

Reasons for Liquidation

The major reason which came out for liquidation was non-payment of the debt liability by the company due to which it went into voluntary liquidation as auditors didn’t agree to sign the audit report due to material misstatements being involved in the past years and demanded the repreparation or recasting of the financial statements (Das, 2017). The company started with child care units in 2000 and expanded heavily during 2000s to become a market leader in Australia. It also acquired 1% of the US market and was earning heavily with profits ranging 15-20%. It also made a number of acquisitions during that period to have the inorganic growth but the same also resulted in increasing the debt balances of the company which the company was not able to pay anytime in future and had to go into receivership. The share prices fell dramatically by more than 40% in the year 2007 and S&P removed the listing status of the company from the stock exchange in the backdrop of this financial collapse (Dichev, 2017).

Besides the above reasons, several other reasons are also attributable to the collapse of ABC learning which include unethical practices in accounting, corporate governance not being followed and improper valuation of the business acquisitions. The company had a poor internal control system and there was lack of review mechanism system in the management due to which due diligence was not being done for the companies which were acquired and there were huge differences between the actual fair value of assets undertaken and the value offered to the companies to the tune of million dollars (Chron, 2017). This proved that the future economic benefits were never given consideration and it was just a mere act of rubber and stamping by the management. There was no investment appraisal committee due to which the company did pay $ 70 Mn for one of the acquisitions which was actually worth only $ 30 Mn.

Another major corporate, One Tel phone company, which was one of the telecommunication giants in Australia also suffered due to liquidation. The company was known for the mobile services, the internet, broadband, marketing and information systems and had a customer base of 2 million spreading across 8 countries. In the case well, there were weak internal controls being practices within the organization that had incompetent management (Farmer, 2018). The company followed unethical business practices and also did not disclose the true and fair view of the accounts to the public and the stakeholders. The main reason behind the liquidation of the company was the wrong reporting and forecasting of the future revenues and profits based on the past scenarios, neglecting the present situation of the company. The company enjoyed tremendous growth in the past from 1997 to 2000 ranging from 40% growth to 127% growth in 4 years and based on this , it gave an estimate that the sales would multiply by 10 times in the coming years which never was the affair. The company kept on piling the debts and liabilities in the form of payables to the creditors from whom spectrum licenses were purchased even though the same were not required (Félix, 2017). The company was publicly as well as government funded, when the company suffered one of the major blows of all time in the form of losses amounting to $ 291 Mn. Also, the share prices fell to as low as $ 1. Inspite of all this issues, the company gave huge salaries and bonus to its directors which added to misery of the company and its debts increased. Due to the negative cash flow, the company had to sell off its operation and assets and lay off its employees and ultimately shut down in 2011. In case the reasons are summarised, then it would be neglect of corporate governance, falsified view of accounts to the general public, inflating the figures for the sales, the debtors, accruals and thereby the profit (Goldmann, 2016). This can also be equally attributed to the neglect of the auditors who should have identified the same in the detection control and should have highlighted the same in the audit report.

Analysis of Real-life Examples

HIH Insurance is the third company in the list which got liquidated due to the above mentioned reasons. It is one of the known companies in Australia for insurance and was the 2nd largest in the country when it got liquidated. The loss to the company at that point of time was $ 5.3 Billion which was one of the highest at that time. The major reason for the collapse and the liquidation is said to be the incorrect and inflated valuation and pricing of the taken over entity FAI coupled with aggressive accounting techniques (Heminway, 2017). Besides the losses on account of these policies the company also paid huge severance bonus to its chief executive officer who separated with the company one year before the liquidation. This collapse had a major impact on the construction industry and housing business as a whole. HIH insurance mainly dealt in the property and underwriting services but the wrong accounting techniques used alongwith the wrong disclosure of the facts & figures relating to acquisitions in the balance sheet made the liabilities and reserves to be understated. Again, in this case as well, acquisitions were being made at wrong values without proper due diligence and the auditors could not identify the same during the audits. All these activities resulted in the total loss of $ 100-300 Mn and hence the company could not issue the results. Therefore, non-compliance of corporate governance coupled with unethical business practices led to liquidation of business here (Kangarluie & Aalizadeh, 2017).

Conclusion

From the above analysis and findings, it can be concluded that the main reason for liquidation was inefficient management and unethical business practices which contributed to liquidation. Therefore, it was not only the rising debt and inability to pay the creditors but fraudulent business means like inflating the profit, understating the liabilities and expenses, capitalisation of the expenses that could have been charges to profit and loss account, which are the major reasons for liquidation (Sithole, et al., 2017). It is because if this that  the government has come up with liquidation laws and set up institutional bodies to conduct the overall liquidation process so that companies do not indulge in the wrong practices and the interests of the creditors and the investors can be safeguarded. The study also shows how important is the audit of the companies and auditor’s report for the stakeholders as all the investment decisions are basically guided through that. Therefore, it is the responsibility of the auditors to conduct the audit in a true and unbiased manner so that the correct things can be reported.

Conclusion

The companies’ management as well as the auditors need to understand that the its their responsibility to give the true and fair view of the accounts in the financial statements as a lot of financial decisions are based upon the same. A number of people lose their jobs on account of liquidation of companies (Kuhn & Morris, 2016). This is the reason that the government has come out with the number of laws for liquidation so that the parties are least affected due to this. The companies should become ethical in their approach and should follow the corporate governance rules and regulations. They should also be compliant with the laws and the best accounting practices in the industry. This unbiased approach will help in the global development of the accounting profession as well as the reporting of financial statements.

References

Alexander, F., 2016. The Changing Face of Accountability. The Journal of Higher Education, 71(4), pp. 411-431.

Belton, P., 2017. Competitive Strategy: Creating and Sustaining Superior Performance. London: Macat International ltd.

Bizfluent, 2017. Advantages & Disadvantages of Internal Control. [Online]
Available at: https://bizfluent.com/info-8064250-advantages-disadvantages-internal-control.html
[Accessed 07 december 2017].

Bromwich, M. & Scapens, R., 2016. Management Accounting Research: 25 years on. Management Accounting Research, Volume 31, pp. 1-9.

Chron, 2017. five-common-features-internal-control-system-business. [Online]
Available at: https://smallbusiness.chron.com/five-common-features-internal-control-system-business-430.html
[Accessed 07 december 2017].

Das, P., 2017. Financing Pattern and Utilization of Fixed Assets - A Study. Asian Journal of Social Science Studies, 2(2), pp. 10-17.

Dichev, I., 2017. On the conceptual foundations of financial reporting. Accounting and Business Research, 47(6), pp. 617-632.

Farmer, Y., 2018. Ethical Decision Making and Reputation Management in Public Relations. Journal of Media Ethics, pp. 1-12.

Félix, M., 2017. A study on the expected impact of IFRS 17 on the transparency of financial statements of insurance companies. MASTER THESIS, pp. 1-69.

Goldmann, K., 2016. Financial Liquidity and Profitability Management in Practice of Polish Business. Financial Environment and Business Development, Volume 4, pp. 103-112.

Heminway, J., 2017. Shareholder Wealth Maximization as a Function of Statutes, Decisional Law, and Organic Documents. SSRN, pp. 1-35.

Kangarluie, S. & Aalizadeh, A., 2017. 'The expectation gap in auditing. Accounting, 3(1), pp. 19-22.

Kuhn, J. & Morris, B., 2016. IT internal control weaknesses and the market value of firms. Journal of Enterprise Information Management, 30(6).

Sithole, S., Chandler, P., Abeysekera, I. & Paas, F., 2017. Benefits of guided self-management of attention on learning accounting. Journal of Educational Psychology, 109(2), p. 220.

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