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What Is the Meaning of Liquidation?

by Jonathan Roe ; Updated February 19, 2019

What's liquidation? It can be difficult to define liquidation because it occurs in different instances and to different degrees. Liquidation is usually the last stage of a workout plan or bankruptcy proceeding for a company. It occurs when it has been determined that a company cannot continue on as a viable entity and it is believed that there exists more value in the assets of the company than in the company as a going concern. Also part of the liquidation definition is when the owner decides to quit, not because he has gone bankrupt but because he doesn’t want to go through the effort and trouble of finding a buyer.

Tips

  • Liquidation is the sale of a company's assets to pay debts when a company or department closes or two companies merge.

Most Liquid Assets Sold First

Once it has been determined that a company should be liquidated, an inventory is taken of all the company’s assets. They are categorized according to how easy they will be to sell. The most liquid assets, such as marketable securities, are sold and the proceeds are placed into an account used to pay off whatever creditors remain.

Outstanding accounts receivable are the second most liquid asset. Depending on the size, concentration and amount of time past due, accounts receivable can either be collected by the business, handed over to a collection agency or bundled into a security and sold in the secondary debt market.

Inventory Assessed and Sold

Liquidating inventory is the next step in the process. Someone familiar with the market and products will go through the company’s warehouse and visually inspect the inventory to see how much of it is raw materials, work in process or finished goods. She will also assess it to see what kind of shape it is in and if any of it is obsolete. Depending on the market, the inventory can either be auctioned off to the highest bidder or the sale of the inventory can be negotiated with a private placement.

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Machinery and Equipment Difficult to Sell

Often the most difficult assets to liquidate, machinery and equipment can take a long time to sell. Due to the specialized nature of the equipment, there is only a small pool of buyers who are interested and able to purchase the assets at any given time. Those buyers have to be located and time must be given so the equipment can be inspected. After it is inspected, financing will have to be lined up, either internally or through a bank. Depending on the type of equipment, months or years can pass before the fixed assets of a firm are finally liquidated.

Location Affects Real Estate Liquidity

Real estate can be as difficult to liquidate as machinery. It all comes down to the type of real estate being liquidated. If it is an office building or a warehouse, there are usually several buyers who are willing to come in and purchase it because there exists a fairly large number of potential tenants. On the other hand, if it is a stone quarry or an alligator farm, there are only going to be a handful of people who might be interested and are willing to pay a reasonable price for it. The main determinant in the ease of liquidating real estate is its location and the pool of buyers who might have a use for it.

What Happens After Liquidation?

Liquidation is usually a part of closing a company because it can't afford to operate and pay its debts. Many times, there aren't enough funds to pay all creditors, even after all assets and inventory have been sold, so some or all creditors will not be paid or will receive less than what they are owed.

When just a department of a company is closing, or a company is merging with another company, only the assets that will no longer be needed will be liquidated. The funds from the sale of assets will be transferred to other departments or to a general fund.

When a company closes, they often try to help their employees find new jobs. If the company is part of a group of companies under a parent company, they may offer employees jobs in their related companies, which could involve relocation. If only a department is closing, employees could be transferred to other departments. In a merger, there are typically overlaps in jobs between the two companies so the duplicate job will be eliminated. Those employees could be offered other jobs in the newly merged company, or be let go.

Liquidation is Not for Everyone

Liquidation is the most drastic way to close a business. In most situations, a buyer can be found who is willing to purchase the company as a going concern. When the company is purchased as a going concern, the buyer believes that he can make some changes which will turn the company around and allow him to make a profit. Alternatively, the company can be bought as a going concern at a price low enough to realize a reasonable return on investment. Either way, it is usually only in the most hopeless of situations when a company is forced into liquidation.

About the Author

Jonathan Roe enjoyed a liberal arts education at Miami University where he studied philosophy and business. He is currently working on an MBA at the Weatherhead School of Management in Cleveland, Ohio, while working full time as a corporate banker. Relying on his wide-ranging education, he writes for a variety of companies.

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