Instead of receiving full payment of their claims

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Unformatted text preview: creditors grant an extension, they require the firm to make cash payments for purchases until all past debts have been paid. A second arrangement, called composition, is a pro rata cash settlement of creditor claims. Instead of receiving full payment of their claims, creditors receive only a partial payment. A uniform percentage of each dollar owed is paid in satisfaction of each creditor’s claim. A third arrangement is creditor control. In this case, the creditor committee may decide that maintaining the firm is feasible only if the operating management is replaced. The committee may then take control of the firm and operate it until all claims have been settled. Sometimes, a plan involving some combination of extension, composition, and creditor control will result. An example of this is a settlement whereby the debtor agrees to pay a total of 75 cents on the dollar in three annual installments of 25 cents on the dollar, and the creditors agree to sell additional merchandise to the firm on 30-day terms if the existing management is replaced by new management that is acceptable to them. Voluntary Settlement Resulting in Liquidation After the situation of the firm has been investigated by the creditor committee, the only acceptable course of action may be liquidation of the firm. Liquidation can be carried out in two ways—privately or through the legal procedures provided by bankruptcy law. If the debtor firm is willing to accept liquidation, legal procedures may not be required. Generally, the avoidance of litigation enables the creditors to obtain quicker and higher settlements. However, all the creditors must agree to a private liquidation for it to be feasible. CHAPTER 17 assignment A voluntary liquidation procedure by which a firm’s creditors pass the power to liquidate the firm’s assets to an adjustment bureau, a trade association, or a third party, which is designated the assignee. Mergers, LBOs, Divestitures, and Business Failure 737 The objective of the voluntary liquidation process is to recover as much per dollar owed as possible. Under voluntary liquidation, common stockholders (the firm’s true owners) cannot receive any funds until the claims of all other parties have been satisfied. A common procedure is to have a meeting of the creditors at which they make an assignment by passing the power to liquidate the firm’s assets to an adjustment bureau, a trade association, or a third party, which is designated the assignee. The assignee’s job is to liquidate the assets, obtaining the best price possible. The assignee is sometimes referred to as the trustee, because it is entrusted with the title to the company’s assets and the responsibility to liquidate them efficiently. Once the trustee has liquidated the assets, it distributes the recovered funds to the creditors and owners (if any funds remain for the owners). The final action in a private liquidation is for the creditors to sign a release attesting to the satisfactory settlement of their claims. Review Questions 17–12 What are the three types of business failure? What is the diffe...
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