What happens to the stock of a public company that goes bankrupt?

By Matt Lee AAA
A:

Occasionally, publicly listed companies go bankrupt. The company's shareholders, depending on the type of stock they hold, may be entitled to a portion of the liquidated assets, if there are any left over. However, the stock itself will become worthless, leaving shareholders unable to sell their defunct shares. Therefore, in the case of corporate bankruptcy, the only recourse is to hope that there is money left over from the firm's liquidated assets to pay the shareholders.

Upon bankruptcy, a firm will be required to sell all of its assets and pay off all debts. The usual order of debt repayment, in terms of the lender, will be the government, financial institutions, other creditors (i.e. suppliers and utility companies), bondholders, preferred shareholders and, finally, common shareholders. The common shareholders are last because they have a residual claim on the assets in the firm and are a tier below the preferred stock classification. Common shareholders often receive nothing at all, as there is usually very little left over once a firm has paid its debts.

The amount of the payment a common shareholder will receive is based on the proportion of ownership he or she has in the bankrupt firm. For example, suppose that a common stockholder owns 0.5% of the firm in question. If the firm has $100,000 to pay to its common shareholders post liquidation, this owner would receive a cash payment of $500.

If a shareholder owns preferred shares, he or she will have an increased chance of receiving a payment upon liquidation because this class of ownership has a higher claim on assets. (For further reading, see A Primer On Preferred Stocks and Knowing Your Rights As Shareholder.)

Investors should consider the possibility of bankruptcy when evaluating potential investments. Ratios, such as debt/equity and the book-value, can provide investors with a sense of what they may receive in the event of bankruptcy.

For more on this topic, read An Overview Of Corporate Bankruptcy.

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