What happens to a company's stocks and bonds when it declares chapter 11 bankruptcy protection?

By Albert Phung AAA
A:

Filing for chapter 11 bankruptcy protection simply means that a company is on the verge of bankruptcy, but believes that it can once again become successful if it is given an opportunity to reorganize its assets, debts and business affairs. Although the chapter 11 reorganization process is complex and expensive, most companies, if given the choice, prefer chapter 11 to other bankruptcy provisions such as chapter 7 and chapter 13, which cease company operations and lead to the total liquidation of assets to creditors. Filing for chapter 11 gives companies one last opportunity to be successful.

While chapter 11 can spare a company from declaring total bankruptcy, the company's bondholders and shareholders are usually in for a rough ride. When a company files for chapter 11 protection, its share value typically drops significantly as investors sell their positions. Furthermore, filing for bankruptcy protection means that the company is in such rough shape that it would probably be delisted from the major exchanges such as the Nasdaq or the New York Stock Exchange and relisted on the pink sheets or the Over-The-Counter Bulletin Board (OTCBB). When a company that is going through bankruptcy proceedings is listed on the pink sheets or OTCBB, the letter "Q" is added to the end of the company's ticker symbol to differentiate it from other companies. For example, if a company with the ticker symbol ABC was placed on the OTCBB due to chapter 11, its new ticker symbol would be ABCQ.

Sometimes after a reorganization, a company will issue new stock that is considered different from the pre-reorganization stock. If this occurs, investors will need to know whether the company has given its shareholders the opportunity to exchange the old stock for new stock, because the old stock will usually be considered useless when the new stock is issued.

Throughout the duration of the reorganization, bondholders will stop receiving coupon payments and/or principal repayments. Furthermore, the company's bonds will also be downgraded to speculative-grade bonds, or junk bonds. Since most investors are wary of buying junk bonds, investors that want to sell their bonds will need to do so at a substantial discount. After the reorganization process and depending on the terms dictated by the debt restructuring plan, the company may require investors to exchange their old bonds for shares and/or new bonds. These new issues of stock and bonds represent the company's attempt to create a more manageable level of debt. (For more on this, see What Is A Corporate Credit Rating? and Junk Bonds: Everything You Need To Know.)

For further reading on this topic, see An Overview Of Corporate Bankruptcy.

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