The Definitive Guide to Liquidation: What It Is and How It Works

What Is Liquidation?

Liquidation, or winding up, is a complex term in the business world that refers to the process of formally ending a company or legal entity’s operations. This process is more than just closing down a business; it’s a comprehensive operation that involves protecting the rights of creditors, distributing assets fairly, and completing all legal procedures. Liquidation can be both voluntary and compulsory, proceeding differently depending on the company’s financial health, legal obligations, and the decisions of its shareholders. In this guide, we will delve into what liquidation is, its causes, types, stages, and its impact on all involved parties.

What Exactly Is Liquidation?

Liquidation is the process of converting all of a company’s assets into cash (by selling them) to pay off its debts, with any remaining assets being distributed among the shareholders. This process culminates in the complete cessation of the company’s commercial activities and the termination of its legal existence. The term “liquidation” itself stems from the idea of making assets “liquid” or easily convertible into cash.

The liquidation process is far more than a simple closure. It is strictly controlled by legal regulations to ensure that creditors’ claims are secured and settled properly. A company must follow specific steps to sell its assets, pay its debts, and ultimately have its registration removed from the Commercial Registry.

Liquidation can be seen as a natural part of a company’s life cycle. Companies may resort to this path for various reasons, such as an unsuccessful business model, changing market conditions, financial difficulties, or disputes among partners. However, liquidation is not always the result of a negative situation. For example, a holding company might decide to close an unprofitable subsidiary, or partners might choose to liquidate due to retirement, as part of a strategic decision.

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Reasons for Liquidation: Why Do Companies Close?

Behind a company’s decision to liquidate are many different reasons. These can generally be categorised into three main areas: financial, strategic, and legal.

1. Financial Reasons:
   • Insolvency: A company’s inability to pay its debts, or insolvency, is one of the most common reasons for liquidation. In this case, the company is legally forced into a winding-up process. Insolvency often arises from issues like cash flow problems, a heavy debt load, or persistent unprofitability.
   • Sustained Losses: If a company fails to make a profit for a long period and consistently operates at a loss, it may become unable to continue its operations. This can lead shareholders to decide to close the business.
   • Insufficient Capital: Not having enough capital to sustain operations is another reason for liquidation.
2. Strategic Reasons:
   • Obsolete Business Model: A company’s business model may become obsolete due to technological advancements, shifting market demands, or competitive pressures.
   • Shareholder Decisions: Personal reasons for partners, such as withdrawing from the business, retiring, or focusing on other ventures.
   • Mergers and Acquisitions: When a company is acquired by another or enters a merger, the acquired company’s legal entity may cease to exist, leading to a liquidation process.
3. Legal Reasons:
   • Court Order: A company may be liquidated by a court order if it engages in illegal activities or if serious disputes arise among shareholders.
   • Termination of Legal Entity: Situations where a company with a single founder ceases to exist upon the founder’s death, or when a partnership’s term expires, can also lead to liquidation.
   • Legal Requirements: In some cases, if a company fails to meet legal obligations required to continue its operations (e.g., maintaining a certain level of capital), liquidation may become compulsory.

Types of Liquidation: Voluntary vs. Compulsory Winding Up

The liquidation process is divided into two main categories based on whether it is initiated by the company’s will or by a legal obligation:

1. Voluntary Liquidation:
   • This type of liquidation begins with a decision made by a unanimous vote of the company’s shareholders or partners.
   • A company may decide to cease operations for strategic or commercial reasons, even if it is financially solvent and capable of paying its debts.
   • In voluntary liquidation, the process is generally faster and more controlled. The partners appoint a liquidator who is responsible for converting the company’s assets into cash, settling its debts, and distributing the remaining balance to the shareholders.
2. Compulsory Liquidation (Winding Up by Court Order):
   • This liquidation begins with a court order and usually covers situations where the company is insolvent or fails to comply with legal regulations.
   • A company unable to pay its debts can be forced into liquidation by the court upon an application from its creditors.
   • In this process, a liquidator or receiver is appointed by the court. This person takes over all the company’s assets and records, settles debts while protecting the rights of creditors, and completes the legal process. Compulsory liquidation is generally a more complex, lengthy, and costly process.

The Stages of the Liquidation Process

Regardless of its type, the liquidation process consists of specific stages. These stages must be completed in compliance with legal regulations.

1. Decision to Liquidate:

• For voluntary liquidation, a decision is made at the general assembly with the approval of all partners and is then notarised.
• For compulsory liquidation, the process begins when a creditor files for bankruptcy or when the court makes a decision on its own (ex officio).

2. Appointment of the Liquidator:

• One or more liquidators are appointed by a general assembly decision or by a court order.
• This person takes over the powers of the company’s board of directors and is responsible for all liquidation transactions.
• The liquidator’s duty is to sell the assets at the best possible price, pay all debts and taxes, distribute the remaining funds fairly, and organise all of the company’s books and documents.

3. Registration and Announcement in the Commercial Registry:

• The decision to liquidate is reported to the Commercial Registry and officially registered.
• With this registration, the phrase “under liquidation” is added to the company’s name.
• Concurrently, the decision is published in the Official Turkish Commercial Registry Gazette at least three times to notify creditors. There must be a specific period (usually one month) between these announcements.

4. Calling Creditors and Creating an Inventory:

• With the publication of the announcement, all creditors are asked to report their claims within a specific period. This process is vital for protecting creditors’ rights.
• During this time, the liquidator creates a detailed inventory of all the company’s assets and liabilities. This inventory serves as the basis for determining the selling prices of assets and the order in which debts will be paid.

5. Converting Assets into Cash and Paying Debts:

• The liquidator sells the company’s real estate, machinery, stock, and receivables to generate cash. These sales are typically conducted through public auctions or tenders.
• With the cash obtained, debts are paid in accordance with a priority order established by law.
  • Order of Priority: First, the liquidation expenses (liquidator’s fees, notary costs, etc.) are paid. Then, public debts such as employee claims, tax debts, and social security premiums are settled, followed by the debts of other creditors.

6. Distribution of the Remaining Balance and Final Procedures:

• Once all debts have been paid, if any cash or assets remain, this balance is distributed among the shareholders in proportion to their capital contributions.
• The liquidator prepares a final report stating that the process has been completed. This report demonstrates that all of the company’s transactions were conducted transparently.

7. De-registration from the Commercial Registry:

• Finally, the decision to complete the liquidation process is reported to the Commercial Registry, and the company’s name is removed from the registry.
• This stage signifies that the company’s legal existence has completely ended and that it no longer exists as a legal entity.

The Impact of Liquidation on Involved Parties

The liquidation process affects not only the company itself but also many of its stakeholders:

• Shareholders (Partners): Any assets remaining after all of the company’s debts have been paid are distributed among the shareholders in proportion to their shares. If the debts exceed the assets, shareholders risk losing the capital they invested.
• Employees: Employment contracts are usually terminated with the decision to liquidate. In this case, employees’ severance pay, notice period pay, and other legal entitlements (salaries, overtime, etc.) are paid. These claims have priority under the law.
• Creditors: Liquidation offers creditors an opportunity to collect their claims. However, in cases where the assets are insufficient to cover the debts, creditors may have to forfeit part or all of their claims.
• Managers: Company managers and board members have an obligation to act transparently and in compliance with the law during the liquidation process. Those who fail to meet these obligations may face legal consequences.

Frequently Asked Questions

Liquidation is the end of a company’s life, but this end often paves the way for new beginnings. The most crucial goal of this process is to ensure that the rights of all stakeholders are protected in a lawful and transparent manner. Therefore, if a decision to liquidate is made, seeking professional legal and financial advice is of the utmost importance.