An article titled “Liquidaton by procedure” by the Senior Associate Gennady Skutsky. Special issue of Expert Severo-Zapad “Ranking of 250 major companies of the North-West region”

16 November 2009

Almost every businessman will sooner or later come up against a situation where his company becomes a burden on him. There may be all kinds of reasons: a changed market situation, back taxes, poorly organized accounting, poor management of human resources documentation, staff troubles. Or maybe chain transactions in which the company participated are completed, or a project for which the company was created is closed out, etc. One way or another, the owner decided that he doesn’t need the company anymore and is willing to get rid of it.

It’s so easy to liquidate a company

The legal services market offering diverse methods to liquidate a company is rather saturated : from procedures of lawful liquidation or bankruptcy where certain mechanisms aimed to protect interests of third persons are provided by lawmakers, to the so called procedures of "alternative", "grey", "black" liquidation where interests of third persons are protected least of all.

While owner’s decision to liquidate his company is absolutely sane and probably even economic justifiable, (hereinafter we use the term of "liquidation" in the broad sense of the word, referring liquidation as such in the technical sense, as well as "alternative" liquidation, unless otherwise stated) it can readily be understood that it is those who are absolutely uninterested in company’s loss, – creditors, minority shareholders, employees- that come off the losers. The state shall join the parties affected should the perishing company take away tax arrears or unpaid administrative fines as well. However, it should be noted that the state, possessing a fair administrative leverage, would least of all feel the need of protection and legal advice.

In speaking of liquidation of a company, in practice people usually imply the following techniques (types) of liquidation. To begin with, liquidation in the technical sense, or the lawful liquidation, stipulated by item 61 of the Civil Code of the Russian Federation and corresponding statutory provisions dedicated to specific legal entities. In this case liquidation implies dissolution of a legal person while entries about a legal entity being liquidated are made in the Unified State Register of Legal Entities.

All measures pertaining to dissolution of a company, are taken by liquidation committee (liquidator), appointed by the supreme management body of the company (general meeting of shareholders in joint-stock companies, general meeting of participants in LLCs). The said committee publishes information concerning procedure and deadlines for filing a statement of claim by creditors. These deadlines term cannot be less than two months from publication of liquidation notice. The function of committee also involves identifying all the existing creditors and informing them of the initiated procedure of liquidation of a legal entity. Should the debtor’s funds or property be insufficient, the liquidation committee shall sale the debtor’s property by public bidding. The proceeds of public bidding shall be used to satisfy claims of creditors according to ranking of claims in the proceeding in statutory sequence.

Additional guaranties

Should the debtor’s assets be insufficient, liquidation procedure shall often turn into insolvency proceedings (bankruptcy procedure). At the same time insolvency proceedings may be initiated as an independent, original method of company dissolution. Bankruptcy is perhaps a sole lawful procedure that enables one to liquidate a debt-burdened company. Also one can't fail to notice that bankruptcy procedure protects creditor’s interests to even greater degree than simple liquidation, and implies active participation of creditors and arbitration court. Insolvency of a company may be claimed by debtor itself as well as creditors (item 7, 9 of Federal Bankruptcy Law, hereafter – FBL).

An additional guarantee of protection of creditor’s interest and, perhaps, the most weighty one,– is the possibility to hold the company director, as well as the persons which determine operation of the company (controllers), vicariously liable for debts of the company in cases provided by a statute, as well as obligation to indemnify creditor for damages caused by unethical practices of the debtor’s director (item 10 of FBL). Subsidiary liability of the said persons shall occur should they breach the obligation of submitting a claim in bankruptcy with the arbitration court (item 2 of article 10 of FBL), as well as in case of improper accounting leading to misreporting the circumstances of the company (item 5 of article 10 of FBL). Controllers of the debtor shall be liable for financial obligations of the debtor and/or obligations to make mandatory payments from the moment of suspending settlements with the said creditors, should the proprietary rights of such creditors be infringed in fulfillment of instructions given by controllers of the debtor.

Controllers are also held vicariously liable at insufficiency of debtor’s property making up bankrupt estate. The law shall entitle arbitration court to relieve them from subsidiary liability should the said persons act in a reasonable manner and in good faith in the debtor’s behalf. However, the burden of proving that controllers were acting in a reasonable manner and in good faith lies with controllers.

The above-described rules and procedures are meant to ensure and protect of interests of creditors so as to enable the creditors to timely receive the information about the winding up, and, consequently, to make their demands and to ensure satisfaction of these demands. All the rules and procedures are meant to carry out liquidation of a company in the shortest possible time, while bypassing, whenever possible, the necessity to satisfy creditors’ claims, and with minimum losses for the company owner. Experience shows that these circumstances, and also complexity, costliness and time consuming nature of liquidation and bankruptcy procedures make them unattractive for businessmen resorting to them only when absolutely necessary.

By shadowy procedures

It is the said reasons that called into existence all sorts of "alternative" liquidation techniques. Although the state has taken the serious steps aimed to protect creditors, the market of alternative liquidation services continues to grow. Admittedly, the liquidation procedures became more refined and companies adopted more cautious approach to support of the process of shutting down. The most popular technique still involves sale of stock and shares, substitution of director by a frontman, reorganisation in the form of consolidation with an enterprise oftentimes created in other region with this express purpose on. Combination of the first and second techiques is also possible.

All such procedures are preceded by transfer of assets to sister companies so as to nullify creditors’ chances of receiving something. The above-described techniques are liquidation only in name, since in the first case a company continues to exist as a legal entity and is not excluded from the Unified State Register of Legal Entities (USRLE). In the second case although a company ceases to exist as a legal entity, it still has a legal successor in the region – the enterprise with which the business was consolidated. Despite measures assumed by the state, one may acknowledge that creditor’s interests are extremely poorly protected against such unethical practices of business owners. Since a company is not obliged to put creditors wise about change of participants, shareholders or executives, creditors may learn about such events too late.

In view of the above, protection of creditors interests in circumstances where such variants of “alternative” liquidation are realised becomes extremely vital. One should remember that the company is liable to notify the registering authority (now tax authorities) on the beginning of reorganisation procedure within three days after the date when respective decision was made. And further to publish in mass media (“Vestnik gosudarstvennoy registratsii”) notices of reorganisation (item1 of article 60, Civil Code of the Russian Federation). Creditor of a legal person, should his rights originate before publication of notice of reorganisation, shall be entitled to demand early fulfilment of respective obligations by debtor. Should the debtor fail to fulfil his obligation early, the creditor shall claim termination and compensation of … damages connected with it, except in cases established by law (item 2 of article 60, Civil Code of the Russian Federation). Shall claims for termination and compensation of damages be after reorganisation, the legal bodies founded as a result of reorganisation (continuing operation) are jointly and severally liable for obligations of the reorganised legal person (item 4 of article 60, Civil Code of the Russian Federation).

It stands to reason that at the moment when a legal body publishes data on reorganisation, as a rule the company has no assets, while owners and executives have long since been substituted by nominal persons. That is why in such a scenario creditors would inevitably act in a manner pertaining to relations regulated by criminal law, and such opportunity is not to be sniffed at. In particular, one may to recommend to submit a claim with law-enforcement agencies, instituting criminal proceedings against former owners and executives (for instance, under articles “Malicious evasion of creditor debt repayment”, “Corporate tax evasion”, “Fraud”). Experience shows that subject to close attention of law-enforcement agencies, in the presence of essential elements of offence in some cases creditors manage to protect their interests even in the seemingly unpromising situations.

Expert Severo-Zapad no. 44 (441), November 16

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