In corporate liquidations, understanding the distribution of funds is crucial. Where does liquidation money go? Who gets paid first, and who might be left with nothing? Exploring the order of payments can reveal the priorities in settling debts and the potential outcomes for creditors and shareholders alike.
Where Does Liquidation Money Go?
The liquidation proceeds are distributed in a specific order according to legal priority. The payment hierarchy is similar whether the liquidation is voluntary or court ordered, however, a court ordered liquidation (bankruptcy) is a more supervised process with additional variations and considerations to the order’s enforcement. Where does the liquidation money go? The money goes to legal claimants of the company’s liquidated assets and is distributed in a prioritized payment process. Here are the prioritized distributions:
Secure Creditors – Secured creditors are first to be paid from liquidation proceeds. These creditors hold collateral against their loans, such as property, equipment, or other hard assets. They are entitled to the proceeds from the sale of the specific assets securing their loans. If the collateral's value is insufficient to cover the debt, the remaining amount owed may be treated as unsecured debt.
Legal and Administrative Costs – The costs associated with the liquidation process are next to be paid. These costs include legal fees, court costs, liquidator or trustee fees, and any peripheral costs incurred by the liquidation and proceeds distribution process. Legal and administrative expenses are paid before any creditor or shareholder distributions.
Unpaid Wages and Employee Benefits – Salaries, unpaid wages, and specific employee benefits, such as pensions, are given jurisdictional preference over unsecured creditor distributions. Statutory limits on wage amounts do apply.
Unsecured Creditors – Once the claims of the aforementioned recipients have been satisfied, any remaining funds are distributed to unsecured creditors. Trade suppliers, contractors, bondholders, and other uncollateralized stakeholders are included in this group. Unsecured creditor payments are made on a pro-rata basis.
Subordinated Creditors – Subordinated debt holders are paid after the unsecured creditors. Subordinated debt is usually prioritized lower by agreement meaning based on contractual terms and conditions these creditors only receive payment if remaining liquidation proceeds are available after higher-priority claims have been paid.
Preferred Shareholders – After all debts have been paid, any remaining funds go to preferred shareholders. These preferred equity owners have priority over common shareholders but are stationed after all creditors.
Common Shareholders – Last and least, any remaining proceeds are distributed to common shareholders. Little-to-no payment is the common shareholder reality, as assets are usually insufficient to satisfy their equity claim.
Where does liquidation money go? The money goes to stakeholders who have invested in the company based on their risk tolerance. Those investors who are secured claimants are risk averse and have collateralized their investment against the company’s fixed assets. Risk neutral and risk seeking investors occupy the unsecured claimant position and receive net distributions, if any are available. But what about court ordered liquidations? What are the differences?
Differences in Court Ordered Liquidations
Court-ordered liquidations are a more formal, strictly regulated process encumbered by additional oversight. Let’s look:
Court Supervision - A judge oversees the liquidation process to ensure that it follows legal requirements. This slowed process provides greater protection for creditors and ensures stakeholder rights.
Trustee or Liquidator Appointment - The court may appoint a trustee or liquidator to manage the process, ensuring that the distribution of assets follows the legal order of priorities.
Priority Differences - The court may adjust the order of payments based on specific circumstances, such as prioritizing certain unsecured creditors if the court deems it fair or necessary. This can occur in unusual cases, though the general order remains consistent.
Potential Reorganization - In some jurisdictions, a court-ordered liquidation may involve an initial attempt to reorganize the company before liquidating it. If reorganization fails, the previously described liquidation proceeds.
Where does liquidation money go? The order of payments in liquidation typically follows a set hierarchy, starting with secured creditors and ending with common shareholders. Court-ordered liquidations are more regulated and may involve additional legal considerations, but the general order of payments remains consistent across both voluntary and court-ordered scenarios.
Read next: What Happens to Directors When a Company Goes into Liquidation?
