In the event that a publicly-listed company declares bankruptcy, the company's shareholders may be entitled to a portion of the liquidated assets, depending on which shares they hold and how much liquid assets are leftover. 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 there is money left over from the firm's liquidated assets to pay the shareholders.
- When a public company goes bankrupt shareholders are entitled to some assets, but it's only what's left after everyone else is paid.
- Common shareholders often receive nothing at all, as there is usually very little leftover once a firm has paid its debts.
- Meanwhile, preferred shareowners have an increased chance of some payment because this class of ownership has a higher claim on assets.
- Ratios, such as debt-to-equity and book value, can provide investors with a sense of what they may receive in the event of bankruptcy.
Who Gets Paid, When
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 then 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 leftover once a firm has paid its debts.
If a shareholder owns preferred shares, he or she will have an increased chance of receiving payment upon liquidation because this class of ownership has a higher claim on assets. Investors should consider the possibility of bankruptcy when evaluating potential investments.
Bondholders are paid first, although they don't have an ownership stake, because they've lent the company money.
Example of Bankruptcy Payout
The amount of the payment a common shareholder will receive is based on the proportion of ownership they have 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.
Risk of Bankruptcy
Ratios such as debt/equity and book value can provide investors with a sense of what they may receive in the event of bankruptcy. As well, Moody's and Standard & Poor's provides ratings that take into account the risk of default. The keys to watch for, that can be responsible for bankruptcy, include rising operating expenses (while revenue remains stagnant) and cash flow issues.