Court-Ordered Winding Up

May 16 2023

Court-Ordered Winding Up

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Court-ordered winding up, also known as liquidation, is a legal process in which a court orders the dissolution of a company, and sale of its assets to pay off its debts. Typically, this process is initiated by a creditor or director who is owed a substantial amount of money by the company and has exhausted other means of payment recovery. Following a court’s order to wind up the company, a liquidator is appointed and assumes control of the company’s assets and distribute the proceeds among its creditors. The liquidation process involves selling off the company’s assets, such as real estate, inventory, and equipment, using the proceeds to settle the company’s debts in a specific order of priority.

During the liquidation process, the company will cease trading, and its directors will lose control over its operations. All legal proceedings against the company will be suspended, and future legal actions will require court approval before proceeding.

The priority order for payment during liquidation is established by law and usually follows the payment of secured creditors, such as banks and financial institutions, followed by employees and then unsecured creditors. Once all debts have been paid, any remaining funds will be distributed among the shareholders according to their shareholding percentage. It is important to note that liquidation is an irreversible and final process that ends the company’s existence. This means that any attempt to restart the company under the same name or using the same assets is illegal, and its directors may face legal consequences.

When can the court order a company to wind up?

A court may order winding up of a company for various reasons, including:

insolvency of the company, where a company is unable to pay its debts as they fall due, or its liabilities exceed its assets;¹
where directors have acted in their own interests rather than in the interests of the company’s members as a whole, resulting in harm to the company;²
the company’s affairs or an act or omission by the company has been oppressive, unfairly prejudicial to, or unfairly discriminatory against one or more members in a manner that contradicts the interests of the members as a whole;³
if court is of the opinion that it is just and equitable that the company be wound up.⁴

While there are other grounds for winding up, the above reasons are the most relevant in disputes. It is important to note that the court will carefully examine the facts and circumstances of each case before deciding whether to order winding up.

Who can apply to have a company wound up?

The authority to request for the winding up of a company will vary depending on the grounds in which you are applying. Under section 461 of the Corporations Act 2001 (the “Act”) the following parties are entitled to apply for a winding up order:

the company;
a creditor of the company;
a contributory of the company (typically a member or shareholder);
the liquidator of a company;
ASIC or APRA (under certain circumstances);

Where oppressive conduct is alleged under section 232 of the Act, the following parties are also entitled to apply for a winding up order:

a member of the company;
a person who has been removed from the register of members because of a selective reduction;
a person who has ceased to be a member of the company if the application relates to the circumstances in which they ceased to be a member;
a shareholder;
a person whom ASIC thinks appropriate having regard to investigations.

Just and Equitable Winding-up

Section 461(k) of the Corporations Act provides that the court may order the winding up of a company if the Court is of opinion that it is just and equitable that the company be wound up.

What are Just and Equitable Grounds?

The courts have attempted a number of times to define the concept of ‘just and equitable’ in the context of company winding up. The consensus appears to be that “just and equitable” is a broad one incapable of exhaustive definition.⁵ The words “just and equitable” are general words, and the court has indicated that applicants may rely on “any circumstances of justice and equity that affect their relations with the company or shareholdings” so long as those circumstances have a direct and immediate relationship to, or bearing upon, the management or administration of the affairs of the subject company, or the conduct of its business.⁶

Examples of Just and Equitable Grounds

In Re Catombal Investments Brereton J listed several categories of cases that may fall under just and equitable grounds to wind up, including:

failure of the substratum of the company;
deadlock or disagreement in the management of the company’s affairs;
fraud in the formation of the company;
misconduct by the directors of the company;
constitutional and administrative vacuum in the management of the company; and
lack of confidence, fairness and public interest and commercial morality.⁷

Other examples include:

where a working relationship predicated on mutual co-operation, trust and confidence has broken down, such that the “continuation of such an association would be a futility”;⁸
where there is “no real prospect that the parties can work together sensibly to reach the necessary agreement to be able to conduct the company’s business in the future”, such that “the company’s operations in the future will not be able to be conducted in any commercially viable and sensible way”;⁹
where there is a “serious and operative state of mistrust and disharmony” between incorporators;¹⁰
where the relationship between incorporators “has completely broken down”, such that the company “could not continue to function meaningfully”;¹¹
where “the foundation of the whole agreement that was made, that the [incorporators] would act as reasonable men with reasonable courtesy and reasonable conduct in every way towards each other”, and there has been a breakdown in communication; and ¹²
Where a shareholder who has invested in a company on the basis that they will undertake a certain activity (including directorship or employment) is entitled to recover his or her contribution if the activity becomes impossible.¹³

Clean Hands Principle

It is worth noting that even if just and equitable grounds exist you may not necessarily be granted an order of winding up as the conduct of each party leading up to the application can influence the orders the court may grant. The case of Ebrahimi v Westbourne sets out the principle of coming to the court with “clean hands”, meaning that the party seeking relief must have acted fairly and honestly in the matter and if the breakdown of the company is a result of that applicants misconduct, the applicant “cannot insist the company be wound up” if the other parties wish to continue.¹⁴

Can the court wind up a Solvent Company?

There is no principle that precludes the court from ordering a solvent company to be wound up.¹⁵ However, it has been acknowledged by the court that winding up a solvent company is an “extreme step” and that they are hesitant to order a solvent company be wound up, especially where reasonable alternatives exist.¹⁶ To this point, in Tomanovic Austin J said “it would be unwise to order the winding up of the viable and now reasonably long-standing business, in circumstances where the breakdown in the shareholder relationship is not materially frustrating the commercially viable and sensible operations of the company”.¹⁷

Winding up on grounds of oppression

The court may order winding up under section 232 of the Act if it is convinced that:

The company’s affairs;
An act or omission by the company; or
A resolution (or proposed resolution) by members or a class of members

Is either:

against the interests of all members; or
unfairly prejudicial or discriminatory against one or more members

This is known more generally as ‘oppressive’ conduct and has been described as conduct which “lacks the degree of probity which the members are entitled to expect in the conduct of the company’s affairs”.¹⁸ For oppressive conduct to be found there must be commercial unfairness to a member or members of the company.¹⁹

Examples of Oppressive or Prejudicial conduct

When assessing whether conduct is unfair, the court takes an objective approach.²³ The courts will assess whether objectively in the eyes of a commercial bystander, there has been unfairness. Where the conduct under scrutiny is the conduct of the directors, the bystander is taken to be a reasonable director with the special skill, common knowledge, and acumen a director should possess.²⁴

It is important to note, as with ‘just and equitable’,’ the concept of ‘oppression’ is a flexible one that is highly dependent on the particular facts of a case. This means that there is no exhaustive list of actions that constitute oppressive conduct.

Alternatives to Winding-up

The court has a wide discretion as to the appropriate remedy.²⁵ However, this wide discretion should be exercised in view of the remedies provided in previous cases involving similar facts and the scope and purpose of s 232.²⁶ Where grounds for intervention exist, the nature of the remedy chosen by the court will be dependent upon the conclusion drawn as to the type of oppression with which the court is dealing and the court will choose the remedy which is least intrusive.²⁷

Generally, there are two objectives in granting remedies for oppression:

To bring an end to the oppressive conduct; and
To compensate the injured party for the injury done to him or her by the oppressive conduct.²⁸

Reasonable remedies in the alternative to winding-up may include an order:

For a forced purchase of one party’s shares by another;
That the company’s existing constitution be modified or repealed;
For the company to institute, prosecute, defend or discontinue specified proceedings;
Restraining a person from engaging in specified conduct or from doing a specified act.

In making an order for a remedy under section 233 the courts have been shown to consider a number of factors, including:

Whether the order would benefit the oppressive conduct;29
The past or proposed acts or omissions of a company;30
Whether the business remains viable/profitable and the impact its liquidation could have on existing employees;31

If a fair offer is made by the defendants to purchase the plaintiff’s shares, prima facie no order for winding-up ought to be made.³² There also exists circumstances when winding-up rather than other alternatives such as share purchases were determined the appropriate remedy, such as:

Where both parties have oppressed one another;³³
Where the majority shareholder did not have the funds to buyout the minority.³⁴

It’s also worth noting that even where the courts have ordered winding-up, they may still stay the order to give the parties a chance to resolve their differences in a manner which might avoid the liquidation.³⁵ Additionally, lesser alternatives to winding-up such as a share purchase may not be ordered, if an even less drastic remedy is consistent with the termination of oppression.³⁶

Forced Share Purchases

The court may order one party to purchase another’s shares under section 233(1)(d) or (e) of the Act. The difference between the sections is that:

(d) allows existing shareholders to purchase shares. The funds for the purchase can come from any source, such as personal funds or loans; whereas

(e) allows the company itself to purchase its own shares using funds from its own share capital. This type of purchase is typically done to reduce the number of shares outstanding, which can increase the value of the remaining shares and improve the company’s financial ratios.

I note that the courts discretion to exercise a purchase of shares is absolute.³⁷ Paragraph 233(1)(d) is not limited to purchase orders involving the minority’s sale of its shares. In Re Bonython Metals Group (No 6) the primary remedy sought by the oppressed minority was an order that the majority sell its shares to the minority.³⁸ Robertson J characterised this as an unusual order but did not exclude the possibility of making such an order in an appropriate case.

Giles JA said in Campbell v BackOffice Investments that a buyout offer is “not to compensate for the shareholder’s loss (although it may have that effect), but to separate the oppressor and the oppressed”.³⁹ Giles JA went on to say that it would be unusual for a buy-out order to be made if the oppression has otherwise been brought to an end, except where the oppression caused the destruction of the business.⁴⁰ This view was confirmed on appeal to the High Court.

Examples of Forced Share Purchases

In Re Rafic the plaintiff sought the winding-up of the company or a compulsory purchase order, on grounds of oppression. He was removed as one of the directors of a family business, and his employment was terminated due to his abusive behaviour. The court ordered the company to purchase plaintiff’s share. The reasoning was as follows:

The exclusion of the plaintiff from management, and in particular employment, and thus from extracting benefit from the company in the way all the shareholders traditionally have done, and the others continue to do, is prima facie within the concept of oppression in s 232.⁴¹
The Judge endorsed statement of Lord Cross made in Ebrahimi v Westbourne regarding petitioners of just and equitable winding-up coming to the courts with “clean hands” stating “there will not be oppression, and a winding-up may be declined, if the person excluded is responsible for the breakdown in the relationship”.⁴²

In the case of Re Hollen Australia, two directors could not agree on the management of the company, one of which applied to have the company wound up on just and equitable grounds. Burnside sought an order that the company be wound up whereas Holt sought an order that Burnside purchase their shares. The original judge found several instances of oppressive conduct but declined to grant the purchase order instead opting for the company to be wound up. The original decision was overturned on appeal in Re Hollen Australia.⁴³ The appeals court ordered that Burnside purchase the shares of Holt.⁴⁴ The judges reasoning was as follows:

Burnside engaged in a range of conduct oppressive to Mr and Mrs Holt;⁴⁵
The company remained profitable and employed several employees. The judge considered that winding-up may put the interests of existing employees and creditors at risk;⁴⁶
An order for winding-up failed to take into account the oppression by Burnside and in fact rewarded Burnside for his oppressive conduct;⁴⁸
Holt submitted that winding-up would be financially advantageous to Burnside and that the probability was that Burnside would, on winding-up, be able to purchase the company’s assets for far less than they were worth;⁴⁷

Valuation of shares

There is no definite rule regarding the appropriate date for determining the value of shares.⁵⁰ Subsection 233 says nothing about the price for which purchase of shares can be ordered, or the basis for the price calculation, the only restriction on the manner in which the price is calculated is that it be a proper exercise of a judicial discretion.⁵¹

The question is ‘what is a fair value to be attributed in all the circumstances?’, and there is room for varied approaches to be taken in relation to the valuation of shares where a different approach would produce a fairer outcome.⁵²

The valuation or buy out price set by the court can be done in a way that considers the conduct of each party, specifically what their value would have been but for the oppressive conduct of another.⁵³

In Dynasty Pty Ltd v Coombs the Court held the net tangible assets method of valuing the minority shares was appropriate in that case because the book values reflected actual values at the time and the company’s balance sheet was dominated by two assets.⁵⁴ In general, however, dividend history or past and future earnings potential were stated to be better methods. I also note that the majority or the minority may be forced to sell their shares.⁵⁵

As to the relevant date, the Court considered that either the date immediately before the oppressive conduct took place or the trial date could be used to value the shares. However, if the earlier date were used, compensation should be given. The principles relating to the date for valuation were also discussed in Harding Investments Pty Ltd v PMP Shareholding (No 3).⁵⁶

Court-Ordered Winding Up