Liquidation

What is liquidation?

Liquidation is the process of winding up a business and converting its assets to cash to pay claimants. It typically occurs when a company is insolvent—unable to meet its financial obligations—but can also refer more broadly to selling inventory or securities at discounted prices to raise cash.

When and how liquidation happens

• Bankruptcy route: In the U.S., Chapter 7 is the primary bankruptcy procedure for liquidation. A trustee is appointed to sell assets and distribute proceeds to creditors.
• Reorganization vs. liquidation: Chapter 11 focuses on reorganizing a business so it can continue operating; some assets may be sold during Chapter 11, but the goal is rehabilitation rather than full wind‑down.
• Non‑bankruptcy liquidation: Companies or individuals can liquidate assets without filing bankruptcy (for example, selling off inventory at clearance prices).

Distribution of assets

Asset distributions follow a legal priority order:

1. Secured creditors
2. Lenders with collateral have first claim. Collateral may be seized and sold—often quickly and at a discount.
3. Unsecured creditors
4. This group includes bondholders, tax authorities, and employees owed wages or benefits.
5. Shareholders
6. Common shareholders are last in line. Preferred shareholders rank ahead of common shareholders but after creditors.

Because assets rarely sell for full book value, shareholders often receive little or nothing in liquidation.

Liquidation of securities and forced liquidation

• Exiting a position: Liquidating a securities position means converting it to cash—selling holdings or offsetting a position (e.g., shorting to neutralize a long).
• Margin and forced sales: Brokers can forcibly liquidate positions if a trader’s account falls below margin requirements or poses excessive risk, selling holdings to cover losses and restore required equity.

Liquidity of assets

“Liquidate” also describes converting any asset into cash. Asset liquidity varies:
– Highly liquid: publicly traded stocks and cash equivalents (quickly sellable).
– Less liquid: real estate, specialized equipment, or restricted securities (takes time and often incurs transaction costs).

Example

A company sells its warehouse, vehicles, and machinery for $5 million during liquidation. It owes $3.5 million to creditors and $1 million to suppliers. Proceeds from the asset sales are used to pay off creditors in priority order; remaining amounts (if any) would go to shareholders.

Liquidation vs. dissolution

• Liquidation: Selling assets and paying claimants to wind up affairs.
• Dissolution: Formal deregistration and legal termination of the company. A company can be liquidated without immediately completing legal dissolution; dissolution is the final administrative step.

Key takeaways

• Liquidation converts assets to cash to satisfy creditor and shareholder claims, usually when a company is insolvent.
• Secured creditors are paid first, unsecured creditors next, and shareholders last.
• Chapter 7 bankruptcy typically governs formal corporate liquidation; Chapter 11 focuses on restructuring.
• “Liquidation” also applies to selling securities or inventory and to the general process of converting assets into cash.