What Happens When a Business Goes Into Liquidation?
When a business experiences significant financial trouble, it may go into liquidation. This occurs when a business files for Chapter 7 bankruptcy. During this process, the business will cease to exist and the assets of the company will be sold to repay any creditors. Investors may or may not receive their initial investments back.
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Bankruptcy
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A business could choose to file one of two different types of bankruptcy: Chapter 11 or Chapter 7 bankruptcy. With Chapter 11 bankruptcy, the company simply reorganizes its debt and continues to operate. With Chapter 7 bankruptcy, the company goes through a liquidation process and eventually closes down. As a result of Chapter 7, the company has to try to sell any assets that they have of value and use that money to repay as much of its debt as possible.
Liquidation
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During a Chapter 7 bankruptcy, a bankruptcy trustee will be appointed to oversee the liquidation of the company's assets. This trustee will sit down with the ownership of the company and evaluate all of the different property that it owns. The trustee will then determine if any of the property is of significant value. The trustee subsequently works to sell these items for auction, or other means, to generate cash for the business. At that point, the investors and creditors of the company will receive payments in the order of their priority.
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Priority
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To determine who receives money when a company liquidates, an order of priority will be used. This order starts out with the secured creditors. For example, if a company has a mortgage on its building, the mortgage lender will be able to close on the building first. After the secured creditors are satisfied, the unsecured creditors will be next in line. Once the creditors are repaid, the investors in the company can then get the rest of the assets. The preferred stockholders will receive preferential treatment over the common stockholders.
Automatic Stay
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When a company goes through the process of a Chapter 7 liquidation bankruptcy, the court will issue an order of automatic stay. This is an order that makes it impossible for creditors of the company to try to continue collecting their debts. Once this order is issued, the creditors have to stop calling the company. The bankruptcy trustee will then be in charge of repaying any debts according to the value of the company's assets.
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