What Happens to Bond Holders in Bankruptcy?

Save

Bonds can be issued by governments and corporations. Governments do not declare bankruptcy, but some municipal and foreign governments can default on certain bond obligations. Bankruptcy is declared by corporations that are unable to make payments on their current obligations. What happens to a corporate bondholder in bankruptcy depends on the bankruptcy proceedings and the type of bond he is holding.

Bankruptcy

  • A corporation declares bankruptcy to temporarily stop payments on its current obligations and to figure out what to do next. It has three options: liquidate, reorganize or sell out. In liquidation, it winds down its affairs and pays off creditors in an established order. In reorganization, it restructures its finances, including debt, by renegotiating terms with lenders and investors. In a sellout, it finds a buyer who typically injects cash and takes over on the agreed-upon terms.

Liquidation

  • Different types of bonds have different claims against corporate assets in liquidation. What happens to a bondholder depends on the type of bond he owns. Insured bonds are paid in full by the insurer. Mortgage bonds or secured bonds--bonds collateralized by specific corporate assets--are paid out of the proceeds from the sales of those assets. Senior bonds are paid out of the general corporate funds ahead of other bonds. The last in line are subordinated bonds and debentures that have a residual claim against any funds left over after other creditors have been paid.

Reorganization

  • In reorganization, a corporation intends to continue as a going concern but asks for relief from creditors. The type of relief it can get is determined through negotiation, which can mean a lower interest rate, forgiveness of a certain amount or type of debt, a debt-for-equity swap or other restructuring.

Takeover

  • Since bondholders as a group are considered senior creditors, they can collectively force a corporation into bankruptcy and take control of and restructure it on terms advantageous to them. Corporate raiders (deep pocket investors who buy whole companies) can take advantage of market opportunities by buying a company's bonds for pennies on the dollar and restructuring the company to make a substantial profit. They do not need to own 100 percent of the bonds--just enough to take control. The remaining bondholders will get whatever the raiders get in the deal.

Buyout

  • If a corporation can find a strategic buyer who agrees to inject cash and take it over, bondholders will get whatever the deal between the corporation and the buyer stipulates.

References

Promoted By Zergnet

Comments

You May Also Like

  • How to Buy Bonds

    If stocks are a form of ownership in a company, bonds are more of a pure loan. In effect, you lend money...

  • What Is Mortgage Default Insurance?

    Mortgage default insurance is a common part of mortgages, especially mortgages that lenders associate with high risk. For a lender, risk means...

  • The Effects of Bankruptcy on Employment

    Filing for bankruptcy is a serious financial decision with long-lasting consequences. According to the Federal Trade Commission (FTC), people who plan to...

  • What Happens in Bankruptcy?

    Bankruptcy is the financial legal process of charging off debt that cannot be paid, however, with new bankruptcy laws, a creditor can...

  • What Is an Unsecured Claim in Bankruptcy?

    An unsecured claim in bankruptcy means that the bankruptcy filer will not receive any money until all the priority and secured claims...

Related Searches

M
Is DIY in your DNA? Become part of our maker community.
Submit Your Work!