Chapter 7 Bankruptcy
Federal bankruptcy laws determine how public companies will go out of business or recover from debt. When the bankrupt company uses Chapter 7, it stops operating and goes completely out of business. What happens next and what are the consequences for investors?
This article will try to get you familiar with corporate bankruptcy under chapter 7.
What is Chapter 7 Bankruptcy?
Some companies have so much debt that they just cannot operate any longer. Such companies may "liquidate" and file bankruptcy under Chapter 7. A trustee is then appointed by a court to sell ("liquidate") the company's assets for cash in order to pay off the debt.
How is Repayment of Debt Distributed?
The company's debt may include debt to creditors and investors. What is paid first is the administrative and legal expenses. After that the remainder will go to creditors. If the value of the collateral that is returned to secured creditors is not sufficient to fully repay them, secured and unsecured creditors will be grouped for the rest of their claim.
Bondholders, as well as any unsecured creditors should file a claim if there is anything left to cover their payment.
In contrast to bondholders, stockholders generally do not have to be notified of the Chapter 7 since they don't receive any return for their investment. However, if creditors do get paid in full, stockholder will be also notified of the Chapter 7 and they would be able to file claims.
Do Stocks and Bonds of the Bankrupt Company Have Value?
Generally, stocks of companies that have filed under Chapter 7 are worthless. Investors lose the money they have invested.
Bondholders, on the other hand, may receive a certain fraction of their bond's face value depending on the amount of assets that are available for distribution. In case a bond is secured by collateral the value of the collateral will also matter to determine the payment.
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