Left to their own devices: The fate of common shareholders in case of bankruptcy

KARACHI:

The company’s shareholders, depending on the type of stock they hold, may be entitled to a portion of the liquidated assets, if there are any left over. However, the stock itself will become worthless, and cannot be sold. Therefore, in the case of corporate bankruptcy, the only recourse is to hope that there is money left over from the firm’s liquidated assets to pay the shareholders.

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 (ie suppliers and utility companies), bondholders, preferred shareholders and, finally, 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 left over once a firm has paid its debts.

Investors should consider the possibility of bankruptcy when evaluating potential investments. Ratios, such as debt/equity and the book-value, can provide investors with a sense of what they may receive in the event of bankruptcy.

Published in The Express Tribune, April 1^st, 2013.

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