debt restructuring, corporate reorganizations, and liquidations chapter 21
TRANSCRIPT
DebtRestructuring,
CorporateReorganizations, and Liquidations
Chapter 21
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Relief procedures not requiring court action Troubled debt restructuring
– transfer of assets in full settlement– granting an equity interest– modification of terms– combination restructuring
Quasi-reorganizations Corporate liquidations
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Troubled debt restructuring: Transfer of assets in full settlement Debtor transfers assets to creditors in order to
settle debt Debtor records gain, as an extraordinary item
if material, as measured by the difference between the carrying basis of the debt and the fair market value (FMV) of the assets transferred
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Troubled debt restructuring: Transfer of assets in full settlement, continued The difference between the FMV of the assets
transferred and their book value is recorded by the debtor as a gain or loss separate from the restructuring gain
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Troubled debt restructuring: Transfer of assets in full settlement, continued
Example:Loan Payable 100,000Accrued Interest 8,000
Assets 70,000Gain on Assets 10,000Restructuring Gain 28,000
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Troubled debt restructuring: Granting an equity interest Debtor transfers an equity interest (stock) in
order to settle debt Debtor records gain, as an extraordinary item
if material, as measured by the difference between the carrying basis of the debt and the FMV of the equity interest
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Example:Loan Payable 100,000Accrued Interest 8,000
Common Stock at par 50,000Paid-in-Capital in Excess of par 30,000Restructuring Gain 28,000
Troubled debt restructuring: Granting an equity interest, continued
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Troubled debt restructuring: Modification of terms Principal and/or interest on debt may be
modified If total future cash payments called for by
restructuring are less than carrying basis of debt, a restructuring gain is recognized and no subsequent interest expense is recognized
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Troubled debt restructuring: Modification of terms, continued If total future cash payments called for by
restructuring are greater than carrying basis of debt, no restructuring gain is recognized and subsequent interest expense (at an effective rate) is recognized
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Example: Year-end payments of $25,639 are made for the next five years.
Troubled debt restructuring: Modification of terms, continued
Loan Payable 100,000Accrued Interest 8,000
Restructuring Loan Payable 108,000
Restructuring Loan Payable 19,159Interest Expense (6%) 6,480
Cash 25,639
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Quasi-Reorganization
Goal is to eliminate a large deficit in retained earnings in order to possibly permit future dividend distributions
Assets should be written down as necessary Par value of common stock is reduced to
additional paid-in-capital
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Quasi-Reorganization, continued
Retained Earnings 50,000Net Assets 50,000
Common Stock 120,000Common Stock 10,000Paid-in-Capital 110,000
Paid-in-Capital 110,000Retained Earnings 110,000
Example: Beginning deficit in retained earnings is $60,000.
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Corporate relief procedures under the Bankruptcy Act Chapter 7: liquidation - the troubled corporation is liquidated Chapter 11: reorganization - the corporation remains in
business through a restructuring of its debt and/or equity Filings under either act may be voluntary or involuntary
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Restructuring debt under a Chapter 11 reorganization
The accounting for the restructuring differs from a restructuring which is not covered by the Bankruptcy Act
The gain on restructuring is measured as the difference between the FMV of the restructured consideration (the net present value of future payments discounted at imputed market rates) and the carrying basis of the debt being restructured
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Chapter 11 reorganization, continued The gain on restructuring is recognized as either an
extraordinary item or additional paid-in-capital Subsequent to the restructuring, interest is recognized
on the restructured debt at the imputed market rate
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Chapter 7: corporate liquidations A trustee in liquidation is appointed The liquidating entity files an inventory of property and
debts/claims Assets are liquidated and the debts/claims of the entity are settled
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Chapter 7: corporate liquidations, continued Claims against the entity may be
– fully secured– partially secured– unsecured with priority– unsecured without priority
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Corporate Liquidations, continued
A reorganization plan will not be confirmed unless creditors will receive as much as they would under a Chapter 7 - Liquidation
Certain debts/claims are not dischargeable
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Statement of Affairs Used in a liquidation to approximate the estimated amounts available to
each class of claims The estimated realizable value of assets are categorized as: assets pledged
with fully secured creditors, assets pledged with partially secured creditors, and free assets (estimated amounts available for unsecured creditors)
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Statement of Affairs, continued Liabilities are classified
– fully secured creditors– partially secured creditors– unsecured creditors with priority– unsecured creditors without priority
The statement provides an estimate of to what extent claims will be satisfied
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Statement of Realization and Liquidation The bankruptcy court will generally require the trustee to report
– unrealized assets assigned to the trustee including those subsequently discovered
– assets that have been realized or liquidated– liabilities to be liquidated that have been assigned to the trustee– liabilities that have been liquidated
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Statement of Realization and Liquidation, continued The Statement of Realization and Liquidation
provides much of the above information in that it reports the actual (versus estimated) results of the liquidation process