A company is called defunct when it stops operating and is no longer active in the market. This usually happens when a business shuts down due to financial losses, bankruptcy, changing market conditions, or an inability to compete effectively. The term “defunct” is not limited to companies alone. It can also refer to brands, organisations, currencies, or practices that are no longer functional or relevant.
In the financial market, some defunct companies may still have shares listed for trading until the company officially completes the delisting process as per regulatory guidelines. Businesses generally become defunct because of poor financial performance, lack of demand, legal issues, or operational challenges that make it difficult to continue business activities.
What is defunct?
The term “defunct” refers to something that no longer exists, operates, or functions actively. In business and finance, a defunct company is a company that has stopped its operations and is no longer conducting business activities. This can happen due to bankruptcy, continuous losses, low customer demand, or other financial and operational problems. Even though a company becomes defunct, its legal closure and market-related formalities may still take time to complete.
Defunct companies: Trading shares
Even after a company becomes defunct, its shares may sometimes continue to exist in the stock market until official delisting procedures are completed.
- Shares may remain listed temporarily: A defunct company’s shares can still trade on stock exchanges until regulatory approvals for delisting are completed.
- Low trading activity: These shares usually have very low liquidity because investors may avoid companies that are no longer operational.
- Higher investment risk: Investing in defunct companies can be risky due to uncertain financial recovery and limited business prospects.
- SEBI regulations apply: Companies must follow guidelines set by the Securities and Exchange Board of India (SEBI) before cancelling registrations or delisting shares.
- Possible suspension from exchanges: Stock exchanges may suspend trading in shares of companies that fail to meet regulatory or compliance requirements.
Understanding the fast-track exit
A fast-track exit is a procedure that enables a defunct company to get its name struck off from the register of companies. This act allows a business to close down officially. It must be initiated by a company representative by providing the required documents and filing an application with the registrar. The prescribed fee for finalising an application is Rs. 5,000.
The following documents must be presented by the defunct company to fast-track exit successfully:
- Copy of the board resolution
- Indemnity bond
- An affidavit
- Statement of account
Certain conditions must be met for a company to be officially deemed a defunct company by the ROC for a fast-track exit. These conditions include:
- No business is done by the company for a period of one year since its incorporation.
- The company has not conducted any business activity in the last two financial years and hasn’t sought ‘Dormant Company’ status.
A company must be deemed dormant before becoming defunct. A dormant company is still legally active or present, but no business takes place. In the next section, we shall examine the differences between a dormant and a defunct company.
Also, it is essential to note that the ROC, or Registrar of Companies, sends a notice to the company and its directors to confirm the official removal of its name from the register. This notice should be responded to within thirty days.
Also read: Preferences shares
Difference between a dormant and defunct company
Let us first establish what the terms dormant and defunct mean in the context of businesses. Dormant companies are still active, and their legal status is maintained. They only minimise operational costs, pause all financial decisions, and take a break or hiatus from active business.
On the other hand, a defunct company does not exist anymore or has failed to commence any sort of business. In simple terms, comparing a dormant and defunct company is the same as comparing inactivity with the closure of a company.
When a company has not been operating for around two years or has not been operational (in any capacity) for at least a year, their names are added to the register of dormant companies. Even after doing so, if a company's owner does not step forward to alter the current situation, the company can eventually be struck off by the ROC and deemed a defunct company that simply ceases to exist.
Also read: IOC in share market
Conclusion
Different factors can trigger the closure of a business, deeming it a 'defunct company, with the most common being bankruptcy. This can be a challenging and stressful situation for any company. It is unfortunate when a company's debts exceed its assets, leading to bankruptcy and, ultimately, its closure. Secondly, when a company engages in illegal or fraudulent activities, which can damage its reputation and lead to customers leaving, it can be forced to close down under public pressure. Instances such as this can cause the company's market position to decline, resulting in it becoming a defunct company. A basic understanding of the difference between a dormant entity and a defunct company is also crucial for those looking to learn the nuances of investing.
