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Transcript of 17 - 1 ©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e,...
17 - 1©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Corporate Liquidationsand Reorganizations
Chapter 17
17 - 2©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Learning Objective 1
Understand differences among
types of bankruptcy filings.
17 - 3©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Bankruptcy Reform Act of 1978
Prior to 1898, state government legislationgoverned bankruptcy procedures.
The 1898 Bankruptcy Act, a federal law,preempted the state legislation.
The 1898 Act was repealed when Congressenacted the Bankruptcy Reform Act of 1978.
17 - 4©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Bankruptcy Law
The bankruptcy law facilitates debt relief toindividuals and corporations under various
provisions, called chapters.
17 - 5©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Types of Bankruptcies
Chapter 7 –Liquidation
A trustee is appointed to sell offassets of the individual or companyand pay claims to creditors.
DescriptionType
Chapter 9 –Adjustmentsof debts of amunicipality
Municipalities (not covered here).
17 - 6©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Types of Bankruptcies
Chapter 11 –Reorganization
A debtor corporation is expected to berehabilitated and the reorganization ofthe corporation is anticipated.
Either a trustee is appointed or thecompany performs the duties of atrustee (debtor in possession).
A plan of reorganization is negotiated.
DescriptionType
17 - 7©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Types of Bankruptcies
Description
Chapter 12 –Farmers
Family farmers with regular income(not covered here).
Type
Chapter 13 –Adjustmentsof debts of anindividual withregular income
Exclusively applies to individuals,including sole proprietorships.
Unsecured debts less than $250,000and secured debts less than $750,000(not covered here).
17 - 8©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Payment of Claims
I. Secured ClaimsClaims secured by valid liens.
II. Unsecured Priority Claims1. Administrative expenses incurred in preserving and
liquidating the estate.2. Claims incurred between the date of filing and the
date an interim trustee is appointed.3. Claims for wages, salaries, and commissions.4. Claims for contributions to employee benefit plans.5. Claims of individuals regarding property or services.6. Claims of governmental units (taxes, duties, etc.).
17 - 9©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Payment of Claims
III. Unsecured Nonpriority Claims1. Allowed claims that were timely filed.2. Allowed claims where proof of claims was filed late.3. Allowed claims for any fine, penalty, or forfeiture, or
for charges arising prior to the order for relief.4. Claims for interest on the unsecured priority claims
or the unsecured nonpriority claims.IV. Stockholders’ Claims
Remaining assets are returned to the debtor corporationor its stockholders.
17 - 10©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Learning Objective 2
Comprehend trustee
responsibilities and accounting
during liquidation.
17 - 11©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Duties of the Trusteein Liquidation Cases
The filing of a case creates an estate.
The trustee takes possession of the estate,converts the assets into cash, and distributes
the proceeds according to the priority ofclaims, as directed by the bankruptcy court.
17 - 12©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Statement of Affairs
This statement is a legaldocument prepared for the
bankruptcy court.
It emphasizes liquidation value.
17 - 13©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Trustee Accounting
The Bankruptcy Actdoes not cover
procedural accountingdetails.
17 - 14©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Trustee Accounting
Statement of Cash Receipts and Disbursements
Statement of Changes in Estate Equity
Balance Sheet
Statement of Realization and Liquidation
17 - 15©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Learning Objective 3
Understand financial reporting
during reorganization.
17 - 16©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Reorganization
Less than 30% of business bankruptcy casesare filed under Chapter 11 each year.
A Chapter 11 reorganization case isinitiated voluntarily or involuntarily.
17 - 17©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Trustee or Debtor in Possession
A private trustee may be appointed.
The debtor corporation may continue in possession.
17 - 18©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
The Duties of a TrusteeIncluding the Following:
– Being accountable for the debtor’s property
– Filing a list of creditors, schedules of assets and liabilities, and a financial statement
– Furnishing information to the court
– Examining creditor claims for authenticity
– Filing a reorganization plan
– Filing final papers on the trusteeship
17 - 19©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Committee Representation
Creditors’ committees are responsiblefor protecting the interests of the
creditors they represent.
17 - 20©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Operating Under Chapter 11
Protection of the debtorin possession allowing
possible cost reductions
Losing the confidenceof its lenders, suppliers,
customers, and employers
Possible Benefits
Disadvantages
17 - 21©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
The Plan of Reorganization Must:
– Identify class of claims
– Specify any class of claims that is not impaired
– Specify any class of claims that is impaired
– Treat all claims within a particular class alike
– Provide adequate means for the plan’s execution
– Prohibit the issuance of nonvoting securities
– Prohibit the issuance of nonvoting securities
17 - 22©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Financial Reporting DuringReorganization
The reorganization processcan take several years.
The corporation must still preparefinancial statements and filings
for the SEC during this timeperiod and after it emerges
from reorganization.
17 - 23©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Effects of Chapter 11 on theBalance Sheet
Unsecured liabilities and undersecuredliabilities incurred before the company
entered Chapter 11 are prepetitionliabilities subject to compromise.
17 - 24©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Effects of Chapter 11 on theIncome Statement
Professional fees and similar expensesrelated directly to the Chapter 11
proceedings are expensed as incurred.
Reorganization items should be reported.
17 - 25©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Effects of Chapter 11 on theStatement of Cash Flows
Cash flow items relating to reorganizationare disclosed separately from cash flow
items relating to the ongoingoperations of the business.
17 - 26©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Supplementary CombinedFinancial Statements
SOP 90-7 requires that condensed combinedfinancial statements for all entities in
reorganization proceedings be presentedas supplementary financial information.
17 - 27©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Learning Objective 4
Understand financial reporting
after emerging from
reorganization including
fresh-start accounting.
17 - 28©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Financial Reporting forthe Emerging Company
Ordinarily, a corporate reorganizationinvolves a restructuring of liabilities and
capital accounts and a revaluation of assets.
For many companies, their reorganizationplan includes the sale of the company.
17 - 29©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Reorganization Value
Generally, the reorganization value isdetermined by discounting future cashflows for the reconstituted business…
plus the expected proceeds from sale ofassets not required in the new business.
17 - 30©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Fresh-Start Reporting
Fresh-start reporting results ina new reporting entity with no
retained earnings or deficit balance.
The SOP provides two conditions thatmust be met for fresh-start reporting:
17 - 31©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Fresh-Start Reporting
1. The reorganization value of the emergingentity’s assets immediately before the date ofconfirmation of the reorganization plan is less than the total of all postpetition liabilitiesand allowed claims.
2. Holders of existing voting shares immediatelybefore confirmation of the reorganization planreceive less than 50% of the emerging entity.
17 - 32©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Fresh-Start Reporting Resultsin a New Reporting Entity
– Allocating the reorganization valueto identifiable assets
– Reporting liabilities
– Final statement of old entity
– Disclosures in initial financialstatements of new entity
– Comparative financial statements
17 - 33©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Reporting by Entities That Do NotQualify for Fresh-Start Reporting
Liabilities are reported at present valuesusing appropriate interest rates.
Forgiveness of debt should be reportedas an extraordinary item.
Quasi-reorganization accounting is not used.
17 - 34©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Illustration of a Reorganization Case
Tiger Corporation files for protection fromcreditors under Chapter 11 on January 5, 2003.
During 2003, no prepetition liabilities arepaid and no interest is accrued on the
bank note or the bonds payable.
17 - 35©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Illustration of a Reorganization Case
The bankruptcy court allows Tiger to invest$100,000 in new equipment in August 2003.
The new equipment has a useful life offive years, and is depreciated over a five
year period to the nearest half-year.
17 - 36©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Illustration of a Reorganization Case
Building depreciation: $50,000 per yearOld equipment: $60,000 per yearPatent amortization: $50,000 per year
17 - 37©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Illustration of a Reorganization Case
(Tiger Balance Sheet)Current assets
Cash $ 50,000Accounts receivable, net 500,000Inventory 300,000Other current assets 50,000 $ 900,000
Plant assetsLand $200,000Building, net 500,000Equipment, net 300,000Patent 200,000 1,200,000
$2,100,000
17 - 38©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Illustration of a Reorganization Case
(Tiger Balance Sheet)Current liabilities
Accounts payable $600,000Taxes payable 150,000Accrued interest on bonds 90,000Note payable to bank 260,000 $1,100,000
15% bonds payable(partially secured) 1,200,000
Stockholders’ deficitCapital stock 500,000Deficit –700,000 – 200,000
$2,100,000
17 - 39©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Reclassification of LiabilitiesSubject to Compromise
(000)Accounts Payable 600Taxes Payable 150Accrued Interest on 15% Bonds 90Note Payable to Bank 26015% Bonds Payable (partially secured) 1,200
Liabilities Subject to Compromise 2,300To reclassify liabilities subject to compromise
17 - 40©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Income and Retained EarningsStatement for the Year 2003
Sales $ 1,000,000Cost of sales (430,000)Wages and salaries (250,000)Depreciation and amortization (170,000)Other expenses (50,000)
Earnings before reorganization items 100,000Professional fees related to bankruptcy (450,000
Net loss (350,000) Beginning deficit (700,000)
Deficit December 31, 2003 $(1,050,000)
17 - 41©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Tiger Balance Sheetat December 31, 2003
Current assetsCash $150,000Accounts receivable, net 350,000Inventory 370,000Other current assets 50,000 $ 920,000
Plant assetsLand $200,000Building, net 450,000Equipment, net 330,000Patent 150,000 1,130,000
$2,050,000
17 - 42©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Tiger Balance Sheetat December 31, 2003
Current liabilitiesShort-term borrowings $ 150,000Accounts payable 100,000Wages and salaries payable 50,000 $ 300,000
Liabilities subject tocompromise 2,300,000
Stockholders’ deficitCapital stock 500,000Deficit –1,050,000 – 550,000
$2,050,000
17 - 43©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
The Reorganization Plan
1. Tiger’s 15% bonds payable were secured with the land and building. The bondholders agree to accept
$500,000 new common stock, $500,000 senior debtof 12% bonds and $100,000 cash payable 12/31/03.
2. The priority tax claims of $150,000 will be paid incash as soon as the reorganization plan is confirmed.
3. The remaining unsecured, nonpriority, prepetitionclaims of $950,000 will be settled as follows:
17 - 44©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
The Reorganization Plan
a. Creditors represented by the accounts payablewill receive $275,000 subordinated debt and$140,000 common stock.
b. The $90,000 accrued interest on the 15% bondswill be forgiven.
c. The $260,000 note payable to the bank will beexchanged for $120,000 subordinated debtand $60,000 common stock.
4. Equity holders will exchange their stock for $100,000common stock of the emerging company.
17 - 45©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Fresh-Start Reporting
The reorganization value is compared with the totalpostpetition liabilities and court-allowed claims at June 30
to determine if fresh-start reporting is appropriate.
Postpetition liabilities $ 255,000Allowed claims subject to compromise 2,300,000
Total liabilities on June 30, 2004 2,555,000Less: Reorganization value –2,200,000
Excess liabilities over reorganization value $ 355,000
17 - 46©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Proposed ReorganizedCapital Structure
Postpetition liabilities $ 255,000Taxes payable 150,000Current portion of senior debt,
due December 2004 100,000Senior debt, 12% bonds 500,000Subordinated debt 395,000Common stock 800,000
$2,200,000
17 - 47©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Comparative Balance Sheetsat June 30, 2004 (000)
AssetsCashAccounts receivableInventoryOther current assetsLandBuildingEquipmentPatentReorganization excess
$ 300 335 350 30 200 425 290 125 —$2,055
a 25
b 100
f 250
c 75d 30c 125
$ 300 335 375 30 300 350 260 — 250$2,200
PreconfirmationBalance Sheet
AdjustmentsDebits Credits
ReorganizedBalance Sheet
17 - 48©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Comparative Balance Sheetsat June 30, 2004 (000)
Equities (claims)Short-term bank loanAccounts payableWages payablePrepetition claimsAccounts payable, oldTaxes payableInterestBank note15% bonds payable
$ 75 125 55
600 150 90 260 1,200
h 600
i 90j 260g 1,200
$ 75 125 55
— 150 — — —
PreconfirmationBalance Sheet
AdjustmentsDebits Credits
ReorganizedBalance Sheet
17 - 49©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Comparative Balance Sheetsat June 30, 2004 (000)
Stockholders’ EquityCapital stock, oldDeficit
500(1,000)
k 500c 75d 30e 125
a 25b 100f 250g 100h 185i 90j 80k 400
——
PreconfirmationBalance Sheet
AdjustmentsDebits Credits
ReorganizedBalance Sheet
17 - 50©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
Comparative Balance Sheetsat June 30, 2004 (000)
New EquitiesCurrent portion, bonds12% senior debtSubordinated debt
Common stock, new
Retained earnings, new
———
—
—$2,055
g 100g 500h 275j 120g 500h 140j 60k 100
100 500
395
800
$2,200
PreconfirmationBalance Sheet
AdjustmentsDebits Credits
ReorganizedBalance Sheet
17 - 51©2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn
End of Chapter 17