What Happens to Stockholders in Bankruptcy?
Over the years, many publicly-traded companies have gone into bankruptcy proceedings. A notable recent bankruptcy was that of United States-based automaker General Motors. Other major companies that have declared some form of bankruptcy include Six Flags, the Star Tribune Companies and Trump Entertainment. Because these companies were publicly traded, many people held stock in them. What happens to stockholders' investments in such a situation depends on a number of factors.
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Types of Bankruptcy
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There are two types of corporate bankruptcy: Chapter 7 and Chapter 11. The form of bankruptcy that a company chooses will depend on a number of factors. However, a company that can convince a bankruptcy court that they can return to profitability and have a plan to return to do so can reorganize under Chapter 11.
Types of Stock
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In some cases, what happens to a stockholder when a company goes bankrupt will depend on the type of stock they hold. Although each company can have differing classes of stock, the two general classifications are preferred stock and common stock. Holders of preferred stock may have more protections in case of bankruptcy, although these protections may vary depending on the stock and the terms of the bankruptcy. Holders of common stock are at the greatest risk in a bankruptcy.
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Chapter 11
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In Chapter 11 bankruptcies, companies remain in business but must reorganize the company to return to profitability. According to the United States Security and Exchange Commission, in almost all Chapter 11 cases the secured debt holders and bondholders become the new owners of a company emerging from bankruptcy. Stocks are often canceled out, meaning a loss for previous shareholders.
Chapter 7
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In a Chapter 7 bankruptcy, the company ceases operation and goes completely out of business. A trustee is then appointed to sell the company's assets in order to pay off creditors. Secured creditors are paid first. If there is money left over after the secured creditors are paid, the bondholders are paid. Once the bondholders are paid, stockholders are paid in order of the type of stock owned.
Recourse
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In most cases, people who have lost money through holding common stock in a company may have no recourse. In many situations, you can request notification of legal decisions regarding the bankruptcy by requesting this information from the bankrupt firm's investor relations division. If you have preferred stock, you may be able to negotiate some shares of the new company or a partial payment for the value of the stock.
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References
Resources
- Photo Credit Bankrupt. Businessman with empty pockets (with clipping paths) . image by Vitaliy Pakhnyushchyy from Fotolia.com
