Question

Liquidation:

Southwestern Wear Inc. has the following balance sheet:

Current assets	$1,875,000		Accounts payable	$375,000
Fixed assets	1,875,000		Notes payable	750,000
			Subordinated debentures	750,000
			Total debt	$1,875,000
			Common equity	1,875,000
Total assets	$3,750,000		Total liabilities and equity	$3,750,000

The trustee's costs total $292,250, and the firm has no accrued taxes or wages. Southwestern has no unfunded pension liabilities. The debentures are subordinated only to the notes payable. If the firm goes bankrupt and liquidates, how much will each class of investors receive if a total of $3.5 million is received from sale of the assets?

Distribution of proceeds on liquidation:

1. Proceeds from sale of assets	$
2. First mortgage, paid from sale of assets	$
3. Fees and expenses of administration of bankruptcy	$
4. Wages due workers earned within 3 months prior to filing of bankruptcy petition	$
5. Taxes	$
6. Unfunded pension liabilities	$
7. Available to general creditors	$

Distribution to general creditors:

Claims of General Creditors	Claim (1)	Application of 100% Distribution (2)	After Subordination Adjustment (3)	Percentage of Original Claims Received (4)
Notes payable	$	$	$	%
Accounts payable	$	$	$	%
Subordinated debentures	$	$	$	%
Total	$	$	$

The remaining $ _______ will go to the common stockholders.

Answer 1

The given question is of liquidation under which liabilities are paid off by realizing assets of the company. The amount so realized by assets will be first paid towards mortgage which are nil in the given question. Debenture holders by default have a floating charge on all the non-mortgaged assets of the company, however in the given case, debentures are subordinate to Notes payable. Therefore, after settling bankruptcy expenses, Notes payable will be paid first followed by debentures and lastly accounts payable will be settled.

Distribution of proceeds on liquidation:
1. Proceeds from sale of assets	$	$3,500,000
2. First mortgage, paid from sale of assets	$	$0
3. Fees and expenses of administration of bankruptcy	$	$292,250
4. Wages due workers earned within 3 months prior to filing of bankruptcy petition	$	$0
5. Taxes	$	$0
6. Unfunded pension liabilities	$	$0
7. Available to general creditors	$	$1,875,000	Refer working note below
8. Available for Common Stockholders	$	$1,332,750
Working Note
Distribution to general creditors:
Claims of General Creditors	Claim	Application of 100% Distribution	After Subordination Adjustment	Percentage of Original Claims Received
	-1	-2	-3	-4
	Amount Available	-	$3,207,750
Notes payable	$750,000	$2,457,750	$750,000	40%
Subordinated debentures	$750,000	$1,707,750	$750,000	40%
Accounts payable	$375,000	$1,332,750	$375,000	20%
Total	$1,875,000		$1,875,000	100%
The remaining $ 1,332,750 will go to the common stockholders.

For formulas used in excel, please refer screenshots of excel working below.