soins ‘An Overview OF Corporate Bankrptey ¢ An Overview Of Corporate Bankruptcy By Investopedia Staff Ifa company you've gota stake in files for bankruptcy, chances are you'll get back pennies tothe dolla. Different bankruptcy procees generally give some idea as to whether the average investor will get back all ora portion of hs investment, but even that is determine case basis. There is also a pecking order of creditors and investors of who get paid back first, second and lst. In this article, well expl ‘happens when a public company files for protection under US, bankruptcy laws and how it affeets investors. 1) INVESTOPEDIA ‘Two Major Types of Bankruptcy Chapter 7 ‘The US. Securities and Exchange Commission states that under Chapter 7 of US. Bankruptcy Code "the company stops ll operations ‘completely out of business. A trustee is appointed to liquidate (sell) the company’s assets, and the money is used to pay off debt". The creditors, who take the least risk are paid first. For example, investors who take a relatively reduced risk in the company by purchasing corporate bonds must forgo the potential of : ‘excess profits the company may earn in the future. For the higher safety of the bonds, the investors agree to receive, at mos, thelr sp. payments. Equity holders, however, have the full potential of seeing their share ofthe company's retained earnings, which would ber stock's price. But the tradeoff for this possibility of boosted returns isthe risk thatthe stock may lose value. As such, inthe case of a C bankruptcy, equity holders may not be fully compensated for the value oftheir shares. In ight of the rsk-return tradeoff, it seems fai that shareholders are second in line to bondholders when a bankruptcy does occur. Secured creditors, who are even more risk-averse than regular bondholders, accept very low interest rates n exchange for the added comporate assets being pledged against the company's debt. Therefore, when a company does go under, secured creditors receive prio paid back before any regular bondholders begin to see their share of the pie. This principle is referred to as absolute priority. (For mo the Stocks Basics Tutorial) Chapter 11 ‘This proceeding of the US. Bankruptcy Code involves the reorganization ofthe debtor's business affairs and assets. The company unc ‘Chapter 11 expects to return to normal business operations and sound financial heath inthe future. I's generally filed by corporatior ‘time to restructure debt that has become unmanageable, Chapter 1 gives the debtor afresh start, which depends on the debtor's fulfi obligations under the reorganization plan. A Chapter 11 reorganization isthe most complex and, generally, the most expensive of alll proceedings. It is therefore undertaken only after the company has carefully analyzed and considered all alternatives. (Chapter 11: The Drink of Choice Public companies tend to try to fle under Chapter 11 rather than Chapter 7 because i allows them to still run thelr businesses and co bankruptcy process, Rather than simply turning over its assets toa trustee, a company undergoing Chapter 11 has the opportunity to financial framework and be profitable again. If fails all assets are liquidated and stakeholders are paid off according to absolute prio Keep in mind that Chapter 11 im'ta get-out-ofyll-ree card. When a company files for Chapter 11, that company is assigned a comm represents the interests of creditors and stockholders. This committee works with the company to develop a plan to reorganize the cc get tout of debt, reshaping it into a profitable entity. Shareholders may be given a vote on the plan, but as thelr priority is second toz this is never guaranteed, If no suitable reorganization plan can be prepared by the committee and confirmed by the courts, shareholds able to stop their company's assets from being sold off to pay creditors. (For related reading, check out Finding Profit In Troubled Ste How It Affects Investors ‘As an investor, you are between a rock and a hard place if your company faces bankruptcy. Clearly, nobody invests money into a.com ‘through its stock or its debt instruments expecting the company to declare bankruptcy. However, when you venture outside ofthe ti ‘of government-issued securities, you are accepting this added risk. ‘When a company is going through bankruptcy proceedings ite stocks and bonds usually continue trading, albeltat extremely low pric if you are a shareholder, you will usually see a substantial decline in the value of your shares inthe time leading up to the company’s t haipuhwurinvestopeda.comfartcls/01/120501 asp2viow=feint wesoins ‘An Overview OF Corporate Bankruptcy declaration. Bonds for near bankrupt companies are usually rated 28 junk. When your company goes bankrupt there isa very good chance you will nt get back the full value of your investment. In fat, there ‘won't get anything back. Here is how the SEC summarizes what may happen to stock~and bondholders during Chapter 11: “During Chapter 11 bankruptcy, bondholders stop receiving interest and principal payments, and stockholders stop receiving dt area bondholder, you may receive new stock in exchange for your bonds, new bonds or a combination of stock and bonds. If yo stockholder, the trustee may ask you to send back your stock in exchange for shares in the reorganized company. The new share {in number and worth less. The reorganization plan spells out your rights as an investor and what you can expect to receive, ifan ‘the company.” Basically, once your company files under any type of bankruptcy protection, your opportunites and rights as an investor change to re bankrupt status of the company. While some companies do indeed make successful comebacks after undergoing restructuring, you nc ‘that the risks you accepted when you Invested in the company can become reality. And if your stake in the pre-Chapter 11 company « ‘worth anything inthe restructured firm, chances are it won't be as much as it was when you first entered your position and it won't form. During Chapter 7 bankruptcy, investors are considered especially low on the ladder. Usually, the stock of a company undergoing Cha; proceedings is usually worthless, and investors lore the money they invested. If you hold a bond, you might receive a fraction ofits fo ‘you recelve depends on the amount of astets available for distribution and where your lavestment ranks on the prlorty Ust onthe fir: Secured creditors have the best chances of seeing the value oftheir initial investments come back to them, Unsecured creditors and s ‘must wait until secured creditors have been adequately compensated before they receive any compensation for the Toss of thei highe ‘investments, Because equity owners are last in line, they usually receive littl, if anything. Conclusion From an investor's point of view, there isn't much good to say about bankruptcy. No matter what type of investment you made in acc goes bankrupt you are probably going to geta lower return on your investment than you once expected, As an individual investor, yo any more say in 2 company's restructuring plan than you do In any other corporate actions on which shareholders vote. In general, Chapter 11 is better than Chapter 7, but in either case you shouldn't expect much of your investment back. Relatively few ‘undergoing Chapter 11 proceedings are able to be profitable again after a reorganization; even if they do become profitable again, it is process, As an investor, you should react toa company's bankruptcy the same way you would if one of your stocks took an unexpecte recognize and accept the dramatically reduced prospects ofthe company, and ask yourself whether you still want to be invested in th the answer is no let go of your flled investment ~ holding on while the company undergoes bankruptcy proceedings will oly lead to nights and perhaps even greater losses in the future, (©2015 vestopedi, LL haipuhwurinvestopeda.comfartcls/01/120501 asp2viow=feint 22