What It Means to Enter Voluntary Administration

As of October 2019, the Australian Taxation Office (ATO) had an outstanding debt amounting to $45 billion.

If government agencies can carry that much debt, of course, it can happen to businesses too. Other than entering into liquidation, what else can businesses do if they reach the point of not being able to pay back creditors?

Under the Corporations Act 2001 (Cth), companies that are facing severe financial problems can finalise their affairs through external administration. Under external administration, the company can enter into administration, receivership, or liquidation.

All external administration processes typically involve creditors, which could be those that have provided goods or services to the company, employees that are owed wages and other employment benefits, or statutory agencies that are owed money such as the Australian Taxation Office.

In this article, our insolvency lawyer will give you a closer look at administration, particularly voluntary administration.

What Is Voluntary Administration?

Business insolvency is when a business becomes unable to meet its debts and other financial obligations as they are due. Rather than an actual legal process, the term ‘insolvent’ describes a state of financial distress in which a business can’t find a way to pay its creditors.

Insolvency can happen for any number of reasons. The most common being poor cash management, an increase in expenses, or reduced cash flow.

In ASIC v Plymin (2003) 46 ACSR 126; VSC 123 [paragraph 386]– (Water Wheel case), Mandie J listed relevant factors that are indicias of insolvency:

1. Continuing losses;

2. Liquidity ratio below 1;

3. Overdue taxes;

4. Poor relationship with bank;

5. No access to alternative finance;

6. Inability to raise further equity capital;

7. Suppliers placing the company on cash on delivery (COD), or otherwise demanding special payments before resuming supply;

8. Creditors unpaid outside trading terms;

9. Issuing of post-dated cheques;

10. Dishonoured cheques;

11. Special arrangements with selected creditors;

12. Solicitors’ letters, judgments or warrants issued against the company;

13. Payments to creditors of rounded sums that are not reconcilable to specific invoices;

14. Inability to produce timely and accurate financial information to display the company’s trading performance and financial position, and make reliable forecasts

When a company finds itself insolvent, they have a few options. If they can’t increase income, owners might think about borrowing money or negotiating with creditors. If none of these options is possible, entering into voluntary administration might be a solution for the distress.

Voluntary administration is a process where basically the director(s) gives up control of the company. Control is then placed in the hands of a voluntary administrator.

A voluntary administrator is an independent and qualified third party. Their job is to complete an investigation into the reasons for insolvency and assess the options of the business. They’ll look for the best possible outcome for the creditors.

What Businesses Should Consider Voluntary Administration?

Companies that should consider voluntary administration include those that:

• are insolvent and require a way to deal with creditors
• had a bad trading period or a large, one-time loss that caused a lack of cash flow
• require a freeze on creditors’ legal rights to take action while taking measures to increase cash flow (such as reducing costs and staff)

Voluntary administration has two main purposes–first is to maximise the insolvent company’s chances of maintaining operations; second is to generate the best possible returns for the creditors.