Companies operate with the aim of either making profit or offering services. The operation and practices of a company influence the attitude of investors and the public towards it. In order to protect investors and the public from making decisions based on financial information that could be misleading, the Companies Act requires companies to prepare financial statements that show their financial condition. These statements show the true and fair view of the company as well as the expected trends. They also show the level of solvency in terms of whether the company can be able to meet its debt and financial obligations.
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The outcome of this can mean that a company is either a going concern or would require to be liquidated. Liquidation in the present scenario was done by the voluntary application of a creditor to which a liquidator who winds up the affairs of the company realizes the assets of the company, pays off creditors, and examines the activities and conduct of the company. This report is on the liquidation of ABC Ltd whose liquidation commenced on 26th April 2010. It outlines and analyses the issues discovered in the process of liquidation while providing recommendations for the analysed and established issues.
Analysis of Issues
This report outlines the troubling issues in the process of liquidation of ABC Ltd. The issues include the failure to prepare financial statements for the period ending 31st March 2008, discrepancies in the financial statements of 2009, failure to prepare financial statements at the commencement of liquidation and discovery of GHI Ltd and Director James who was formerly a director of ABC Ltd.
Failure to Prepare Financial Statements for the Period Ending 31st March 2008
The investigation of ABC Ltd has established that there were no financial statements prepared for the period ending 31st March 2008 yet the company continued operation for another subsequent year before liquidation in 2010. According to Borrowdale (2004, p. 127), the Companies Act of 1993 places the special responsibilities on the board of directors to provide correct records and explanations for the transactions of the company for determining its financial position through the annual report (Section 194 (1)).
The annual report has to be prepared on the affairs of the company for the accounting period ending on the balance date specified in the Financial Reporting Act (Section 208 (1)), and issued to shareholders together with statements (Section 209 (1)). Section 209(5) specifies that for a company without subsidiaries as ABC Ltd, the financial statements for the previous trading period have to be included in the annual report and signed accordingly. According to section 373 (2) of the Companies Act, the issues to do with company records are an offence in terms of the failure to prepare the financial records and warrants a fine not exceeding $10,000 on the directors individually as Keith, Lara and James if he was a director during the specified period ending 31st March 2008 with the defences available in section 376 of the Act..
According to the Financial Reporting Act 1993 (Section 6A), ABC Ltd falls into the category of exempt company while the meaning of the balance date stipulated in section 7 applies to 31st March since the directors did not offer any other date for financial reporting (Watson, 2009). According to the Financial Reporting Act (1993), the exempt company is required to prepare financial statements within 5 or 9 months after the balance date of the company according to section 12 with the definition of financial statements in section 8. The failure to prepare financial statements by ABC Ltd for 31st March 2008 is a breach of the Financial Reporting Act because according to section 37 if financial statements of an exempt company are not completed and signed in the required time, the directors are held responsible for the commitment of the offence and on conviction are liable to a fine not exceeding $10,000 individually.
Discrepancies in the Financial Statements of 2009
The investigation of the transactions shows that ABC Ltd presented financial statements that had discrepancies through the overstatement of income and understatement of liabilities. According to the Financial Reporting Act 1993 (Section 3), the financial statements have to be acceptable in the accounting practice and comply with the international financial reporting standards (Watson, 2009). The Companies Act 1993 provides in section 131(1) that directors have an obligation to act in good faith and in the best interest of the company one of which is the preparation of financial statements.
This duty requires them to act in good faith and prepare financial statements that represent the true and fair view of the company since they are liable for the losses arising out of the reliance on the financial statements to enter into contractual relationship with the company (Borrowdale, 2004). The financial statements prepared for the period ending 31st March 2009 have discrepancies of overstatement of income and understatement of liabilities. This violates the international accounting standards of prudence, faithful representation and reliability (International Accounting Standards Body, 2008, pp. 79-80). This violation of the Act thus affects the provisions of the Financial Reporting Act of 1993 and the companies Act of 1993 and is regarded as a financial fraud (Ramage, 2006).
The Financial Reporting Act of 1993 states that for an exempt company such as ABC Ltd, the directors are liable for an offence in which the financial statements violate the international financial reporting standards in section 11 and 12 and are liable for a personal fine not exceeding $10,000. In this case, Lara is personally responsible as the managing director while Keith and James are also responsible since they were still directors of ABC Ltd as at 31st March 2009 (Watson, 2009). The Companies Act of 1993 (section 373 and 374) offers a fine not exceeding $10,000 for failure to comply with the Act. The amount is imposed personally on the directors as Lara, Keith and James since they were part of the board of directors as at 31st March 2009 (Watson, 2009).
Failure to Prepare Financial Statements at the Commencement of Liquidation
The liquidation process began on 26th April 2010 for which the recent financial statements for the period up to 31st March 2010 were not prepared. The liquidator makes use of the financial statements of a company during liquidation to ascertain its actual financial position, distribute its assets, pay off creditors and review the activities and transactions of the company (Samkin & Deegan, 2006). The liquidation process is based on the assumptions that the company fulfils the requirements of the Companies Act 1993 and the Financial Reporting Act of 1993 on preparation of financial statements.
The failure to prepare financial statements for an exempt company as ABC Ltd warrants a fine not exceeding $10,000 on the individual directors. However, the Companies Act 1993 section 372 on the liquidation of a company was repealed in 2007 while the financial reporting act is silent on the issue. This insufficiency of disclosure does not bind the directors of ABC Ltd in the liquidation (Watson, 2009).
Discovery of GHI Ltd and Director James
There is a discovery that six months before ABC Ltd went into liquidation, it lost a major supply contract with DEF Holdings Ltd which is now supplied by GHI Ltd. James who was a director of ABC Ltd left five months before the commencement of liquidation and is currently a director in GHI Ltd. The scenario raises suspicion and the issue that James may likely be liable for use of the information of ABC Ltd (Ramage, 2006).
The Companies Act of 1993 on disclosure of the company information prohibits the directors of any company from using the company information for personal gain but does not offer offences for breach of the same. However, the common law requirements under the UK insolvency law based on the Insolvency Act of 1986 provides that wrongful trading is a civil wrong and is based on the opinion of the liquidator. This is possible in this case to follow more court investigations on James regarding the disclosure of information of ABC Ltd, his position of directorship and prior knowledge of the insolvency of ABC Ltd. The damages from the issue are decided by the court based on evidence and defences (Samkin & Deegan, 2006).
This report has been prepared following the liquidation of ABC Ltd that commenced on 26th April 2010. It identifies and analyses the main issues from the process that warrant court investigation based on the provisions of the Companies Act of 1993 and the financial reporting act of 1993. The issues analysed are the failure to prepare financial statements for the period ending 31st March 2008, discrepancies in the financial statements of 2009, failure to prepare financial statements at the commencement of liquidation and discovery of GHI Ltd and Director James.
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Borrowdale, A. (2004). Duties and Responsibilities of Directors and Company Secretaries in New Zealand. Auckland: CCH New Zealand Ltd.
International Accounting Standards Board. (2008). International Financial Reporting Standards (IFRS 2008). London: Kluwer Publishers.
Ramage, S. (2006). Fraud: The Company Law Background: Fraud Law-Book Three. New York: Universe Publishers.
Samkin, G., & Deegan, C. (2006). New Zealand Financial Accounting. Upper Saddle River: McGraw Hill Higher Education.
Watson, S. (2009). The Law of Business Organizations. Auckland: Palatine Press.