Liquidations

Discussion

Liquidation proposals are usually bad news for long-term investors. They occur after a protracted period of declines in earnings and share prices. However, liquidation may be an attractive option if a sale of the firm's assets on a piece-meal basis can be accomplished at a higher price than indicated by the market. This alternative can also be viewed as a potential takeover defense. Often, a company in a shrinking industry with overcapacity has two alternatives to bankruptcy proceedings: merger or liquidation. Liquidation is the preferable alternative for maximizing share-holder value, if the assets can be sold off at a higher price than a potential acquirer is willing to pay for the company as a whole. In some cases, liquidation announcements actually result in positive stock price movements.[1] Ironically, this may be because liquidation values are more stable than uncertain future cash flow estimates.

Situations that may indicate that a voluntary liquidation is the best course of action vary. Shareholders voting on liquidation proposals should consider the following:

• Has management made a good faith effort to solicit a merger on more favorable price terms than would be indicated by a liquidation?

• Has a professional appraisal been completed on the assets to be sold?

• Are there sufficient cash reserves to assure that all creditors can be paid off once all the assets are sold?

• What is the compensation plan for those executives who will participate in liquidating the company's assets? For example, the plan may provide for incentive stock options which are tied to an executive's performance in obtaining the highest price possible for the company's assets.

However, regardless of whether these characteristics are present, probably the most critical issue is whether the company is likely to file for bankruptcy if the liquidation proposal is not approved. Typically, equity holders of bankrupt companies receive little or nothing for their shares after creditors are paid off, even if the company emerges from reorganization.