Declaring bankruptcy has significant effects on a public company, including severe consequences for its investors. This decision is often derived from cripple debt that the public company cannot pay back under the current terms of agreements. Hence, declaring bankruptcy is the only way for the company to save itself and start running again after facing some considerable losses.
How Do Companies Declare Bankruptcy?
Federal bankruptcy laws determine ways to deal with a business that has declared bankruptcy and governs how the debts of a business will be divided. The two types of bankruptcies that businesses can file for are Chapter 7 and Chapter 11 bankruptcy.
Chapter 7 bankruptcy allows businesses to conduct a “going out of business sale” to generate money so that the company's debts can be paid off. Chapter 11 bankruptcy, on the other hand, is when a company wants to reorganize its business and categorize the debt so that it can survive and introduce a new business model. If a company files for this kind of bankruptcy, it is allowed to run the day-to-day business but needs the bankruptcy court's permission to make significant business decisions.
What Happens to the Company's Stock?
Regardless of the type of bankruptcy that a company chooses to declare, their current stock becomes useless. This is because the common stock, also known as the equity in a company, does not receive much in the bankruptcy proceeding. Creditors, such as bondholders, suppliers, and employees need to be dealt with before the common stockholders.
You might have noticed the “Q” placed on a ticker symbol. This shows that the company is going through bankruptcy proceedings. It is seen as an end mark to investors as even if the company manages to reorganize, its plan automatically cancels all existing shares of common stock. Even after the new stock is issued, the company's reorganization plan will trade without the “Q,” but the old stock will still retain the “Q.” This often confuses the investing public.
How Stock is Traded After Bankruptcy
As mentioned above, a company can still trade its common stock despite filing for bankruptcy. However, they are often unable to meet the listing standards of important exchanges. Hence, they are required to go to the OTC Markets along with the “Q” attached to their ticker symbol.
It is important to keep in mind that the federal law does not prohibit a company from trading just because it is in the midst of bankruptcy proceedings.
Investing in a Bankrupt Company
Some investors may want to buy or hold the bankrupt company's common stalk thinking that the company may reemerge, and they would be able to gain the rewards.
However, this is not a smart move. There is no indication that old investors receive any benefits from the organization. In fact, they may incur losses as the old common stock depreciates and holds no real value. The priority scheme set by the federal bankruptcy laws determines that bondholders are to be paid before stockholders because the holders of common stock are at more risk.
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