Share
Explore BrainMass

Settlement of claims in bankruptcy liquidation

Settlement of claims in bankruptcy liquidation.
Please provide step by step work for A through F.
16A-1. The trustee in the bankruptcy settlement for Immobile Corporation lists the
book values and liquidation values for the assets of the corporation. Also,
liabilities and stockholders' claims are shown.

Settlement of Claims and bankruptcy liquidation
www.mhhe.com/bh11e
Liquidation
Book Value Value
Assets
Accounts receivable . . . . . . . . . . . . . . . . $1,000,000 $ 700,000
Inventory . . . . . . . . . . . . . . . . . . . . . . . . 1,100,000 600,000
Machinery and equipment . . . . . . . . . . . 800,000 400,000
Building and plant. . . . . . . . . . . . . . . . . . 3,000,000 1,800,000
$5,900,000 $3,500,000
Liabilities and Stockholders' Claims
Liabilities:
Accounts payable . . . . . . . . . . . . . . . . $2,000,000
First lien, secured by
machinery and equipment. . . . . . . . 650,000
Senior unsecured debt . . . . . . . .. . . . . 1,300,000
Subordinated debenture . . . . . .. . . . . . 1,450,000
Total liabilities . . . . . . . .. . . . . 5,400,000
Stockholders' claims:
Preferred stock . . . . . . . . . . . . . . . . . 100,000
Common stock . . . . . . . . . . . .. . . . . . 400,000
Total stockholders' claims .. . . . 500,000
Total liabilities and
stockholders' claims . . . . .. . . $5,900,000

a. Compute the difference between the liquidation value of the assets and the
liabilities.
b. Based on the answer to part a, will preferred stock or common stock participate
in the distribution?
c. Assuming the administrative costs of bankruptcy, workers' allowable wages, and
unpaid taxes add up to $300,000, what is the total of remaining asset value
available to cover secured and unsecured claims?
d. After the machinery and equipment are sold to partially cover the first lien
secured claim, how much will be available from the remaining asset liquidation
values to cover unsatisfied secured claims and unsecured debt?
e. List the remaining asset claims of unsatisfied secured debt holders and unsecured
debt holders in a manner similar to that shown at the bottom portion of Table
16A-3.
f. Compute a ratio of your answers in part d and part e. This will indicate the initial
allocation ratio on page 499.
g. List the remaining claims (unsatisfied secured and unsecured) and make an
initial allocation and final allocation similar to that shown in Table 16A-4 on
page 499. Subordinated debenture holders may keep the balance after full
payment is made to senior debt holders.
h. Show the relationship of amount received to total amount of claim in a similar
fashion to that of Table 16A-5 on page 500. (Remember to use the sales
[liquidation] value for machinery and equipment plus the allocation amount in
part g to arrive at the total received on secured debt.)

Before a specific allocation is made to the creditors (those with liability claims), the
three highest priority levels in bankruptcy must first be covered. That would include
the cost of administering the proceedings, allowable past wages due to workers, and
overdue taxes. For the Mitchell Corporation, we shall assume these total $100,000.
Since the liquidation value of assets was $700,000, that would leave $600,000 to cover
creditor demands, as indicated in the left-hand column of Table 16A-2.

Table 16A-2
Asset values and claims
Assets Creditor Claims
Asset values in liquidation . . . . . . . . . . $700,000 Accounts payable. . . . . . . . . . . . .... . . . $ 300,000
Administrative costs, wages, First lien, secured by
and taxes . . . . . . . . . . . . . . . . . . . . ......100,000 machinery and equipment . . . . . . 200,000
Remaining asset values . . . . . . . . . . . $600,000 Senior unsecured debt . . . . . . . . . . ...... . 400,000
Subordinated debentures. . . . . . . . . ....... 200,000
Total liabilities . . . . . . . . . . . . . . . . . . .. $1,100,000

Before we attempt to allocate the values in the left-hand column of Table 16A-2 to the right-hand column, we must first identify any creditor claims that are secured by the pledge of a specific asset. In the present case, there is a first lien on the machinery
and equipment of $200,000. Referring back to Table 16A-1, we observe that the machinery and equipment has a liquidation value of only $100,000. The secured debt holders will receive $100,000, with the balance of their claim placed in the same category
as the unsecured debt holders. In Table 16A-3, we show asset values available for unsatisfied secured claims and unsecured debt (top portion) and the extent of the remaining claims (bottom portion).

Table 16A-3
Asset values available for unsatisfied secured claims and unsecured debt holders?and their remaining claims.

Asset values:
Asset values in liquidation . . . . . . . . . . . . . . . .. . . $ 700,000
Administrative costs, wages, and taxes . . . . . . . . . . 100,000
Remaining asset values . . . . . . . . . . . . . . . . . . . . . . 600,000
Payment to secured creditors . . . . . . . . . . . .. . . . . .-100,000
Amount available to unsatisfied
secured claims and unsecured debt . . .. . . . . $ 500,000
Remaining claims of unsatisfied
secured debt and unsecured debt:
Secured debt (unsatisfied first lien). . . . . $ 100,000
Accounts payable . . . . . . . . . . . . . . . . . . . . 300,000
Senior unsecured debt . . . . . . . . . . . . . . . . . 400,000
Subordinated debentures . . . . . . . . . . . .. . . 200,000
$1,000,000

In comparing the available asset values and claims in Table 16A-3, it appears that the settlement on the remaining claims should be at a 50 percent rate ($500,000/$1,000,000). The allocation will take place in the manner presented in Table 16A-4.

Table 16A-4
Allocation procedures
for unsatisfied secured
claims and unsecured
debt

(1) (2) (3) (4)
Amount Initial Amount
Category of Claim Allocation (50%) Received
Secured debt (unsatisfied 1st lien) . . . . . . $ 100,000 $ 50,000 $ 50,000
Accounts payable . . . . . . . . . . . . . . . . . . . 300,000 150,000 150,000
Senior unsecured debt . . . . . . . . . . . . . . . 400,000 200,000 300,000
Subordinated debentures . . . . . . . . . . . . . 200,000 100,000 0
$1,000,000 $500,000 $500,000

Each category receives 50 percent as an initial allocation. However, the subordinated debenture holders must transfer their $100,000 initial allocation to the senior debt holders in recognition of their preferential position. The secured debt holders and
those having accounts payable claims are not part of the senior-subordinated arrangement and, thus, hold their initial allocation position.
Finally, in Table 16A-5, we show the total amounts of claims, the amount received, and the percent of the claim that was satisfied.

Table 16A-5
Payments and percent
of claims

(1) (2) (3) (4)
Total Amount Amount Percent
Category of Claim Received of Claim
Secured debt (1st lien) . . . . . . . . . . . . . . . $200,000 $150,000 75%
Accounts payable . . . . . . . . . . . . . . . . . . . 300,000 150,000 50
Senior unsecured debt . . . . . . . . . . . . . . . 400,000 300,000 75
Subordinated debentures . . . . . . . . . . . . . 200,000 0 0

The $150,000 in column (3) for secured debt represents the $100,000 from the sale of machinery and equipment, and $50,000 from the allocation process in Table 16A-4. The secured debt holders and senior unsecured debt holders come out on top in terms
of percent of claim satisfied (it is coincidental that they are equal). Furthermore, the subordinated debt holders and, as previously mentioned, the preferred and common stockholders receive nothing. Naturally, allocations in bankruptcy will vary from circumstance
to circumstance. Working problem 16A-1 will help to reinforce many of the liquidation procedure concepts discussed in this section.

Attachments

Solution Preview

Please see the attached file

16A-1. The trustee in the bankruptcy settlement for Immobile Corporation lists the
book values and liquidation values for the assets of the corporation. Also,
liabilities and stockholders' claims are shown.

Settlement of Claims and bankruptcy liquidation
www.mhhe.com/bh11e
Liquidation
Book Value Value
Assets
Accounts receivable . . . . . . . . . . . . . . . . $1,000,000 $ 700,000
Inventory . . . . . . . . . . . . . . . . . . . . . . . . 1,100,000 600,000
Machinery and equipment . . . . . . . . . . . 800,000 400,000
Building and plant. . . . . . . . . . . . . . . . . . 3,000,000 1,800,000
$5,900,000 $3,500,000
Liabilities and Stockholders' Claims
Liabilities:
Accounts payable . . . . . . . . . . . . . . . . $2,000,000
First lien, secured by
machinery ...

Solution Summary

The solution explains how the settlement of claims is carried out in a bankruptcy liquidation.

$2.19