Since 1977

NATIONAL UNIVERSITY ELLERY DE LEON

ADVAC 1- CORPORATE LIQUIDATION 1st Semester SY 2016-2017

LECTURE NOTES
CORPORATE LIQUIDATION with priority, and are called contingent liabilities. The
Business failures take many forms, common one is the statement of affairs measures in estimated terms what
inability to settle financial obligations as they become due. payments are to be received by the different types of
If the distressed company liquidates, it enters into creditors in the event of liquidation. A full illustration of
bankruptcy procedures that are court administered the Statement of Affairs is prepared for Problem 1. A
because of legal ramifications. shorter schedule that could also provide meaningful
information is as follows:
The process of corporate liquidation would include
realization of assets and the distribution of the cash Estimated cash available(Cash on Hand plus Realizable
proceeds, first to the different creditors, then the balance values of all assets) Px
to stockholders, if any. Generally, the cash provided would Less prioritized claims:
be less than the amount of all the liabilities so a payment Fully secured creditors Px
deficiency to creditors would occur. These activities are Secured portion of partially-secured
done by a court-appointed trustee under accountability Creditors x
techniques. Unsecured creditors with priority x (x)
Actual liquidation, however, is preceded by a court-petition (a) Net cash available to unsecured amount Px
for bankruptcy, voluntary, if filed by the distressed Less (b) Unsecured amounts:
company itself; involuntary if initiated by its creditors. The Unsecured portion of partially secured
voluntary petition is submitted to the courts for resolution Creditors Px
and a statement exhibiting the petitioner’s debts and Unsecured creditors without priority x (x)
assets (at fair values) accompanies the petition. This Estimated deficiency to creditors P(x)
statement is commonly called the Statement of Affairs.
The estimated recovery rate for unsecured
The Statement of Affairs. Amounts: (a)/(b) = ER%
It is prepared under a quitting-concern assumption and
makes the following classifications as to assets and Another method of estimating the amount of deficiency
liabilities: to unsecured creditors without priority, using a
Assets: different set of data is as follows:
(1) Pledged with Fully Secured Creditors – estimated cash
proceeds is equal to or more than the amount of the Estimated loss on sale of non-cash assets PX
secured claim. Plus contingent liabilities X
(2) Pledged with Partially Secured Creditors – estimated Estimated gross loss PX
cash proceeds is less than the amount of the secured Less: Estimated gain on sale of non-cash
claim. Assets PX
(3) Free Asset – any asset of the entity that has not been Plus contingent assets X (X)
used to secure the payment of any of the company’s (x) Estimated net loss P(X)
liabilities and therefore any cash proceeds therefrom is (y) Compare with carrying value of SHE X
available to unsecured creditors.
IF (x) and (y) are equal amounts, available cash
Liabilities covers exactly outstanding liabilities; no defi-
(1) Secured Liabilities – that which is covered by a ciency to creditors AND no amount is
collateral asset recoverable by stockholders.
(a) Fully-secured – the realizable value of the pledged IF (x) is more than (y), the peso amount
asset is at least equal to the amount of the claim. difference is an Estimated Deficiency to
(b) Partially-secured liabilities – the realizable value of creditors
the pledged asset is less than the amount of the
claim. Every partially secured claim has a secured IF (x) is less than (y), the peso amount
portion, which is covered by the realizable value of difference is an estimated amount
the collateral and an unsecured portion, that which recoverable by Stockholders.
is not covered.

(2) Unsecured Liabilities – that which is not covered by a Accounting and Reporting by the Trustee.
pledged asset. Accounting would be by simple financial records and
(a) Unsecured liabilities with priority – those that are reports detailing accountability for the custody of assets
specified under the Bankruptcy Law that must be and temporary assumption of liabilities. Assets and
paid in full ahead of any other type of unsecured liabilities taken over are recorded in the trustee’s books at
liabilities. carrying values in the books of the distressed company
(b) Unsecured liabilities without priority – is any other upon the transfer. Since the stockholders’ equity items are
type of unsecured liability. not transferred, a reciprocal account, Estate Equity, is
established in the books of the trustee to balance the
Unrecorded assets with market values are included in accounts. In turn, a reciprocal Trustee Account is
the statement of affairs under free assets category and established in the books of the distressed company in
are called contingent assets; unrecorded administrative representation of the net assets transferred out to the
and liquidation expenses are categorized as unsecured responsibility of the trustee.

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1. The trustee is required to prepare the following

periodic statements and reports: (a) Cash receipts and
STRAIGHT PROBLEMS

Problem 1 Problem 2
The following information is available on August 1, 2016, The balance sheet of BRAVEHEART ENTERPRISES at June
for HEARTBREAK COMPANY, which is having difficulty in 1, 2016 follows. At this date an interim trustee was
paying its liabilities as they become due: appointed by the court to assume control of
BRAVEHEART’s estate and liquidate the distressed
Carrying Amount corporation.
Cash P 14,336 Cash P 32,000
Accounts receivable, net, fair value Accounts receivable, net 64,000
equal to carrying amount 164,864 Inventories 288,000
Inventories, current fair value , Land 160,000
P64,512 pledged on P75,264 of notes Buildings, net 800,000
payable 139,776 Intangible assets 208,000
Machinery and equipment, net, Total P1,552,000
current fair value of P241,562 Accounts payable P 400,000
pledged on mortgage note payable 383,488 Notes payable 320,000
Office supplies, current fair value of Deferred revenue 8,000
P8,960 7,168 Wages payable 24,000
Wages payable 20,787 Mortgage note payable 640,000
Taxes payable 4,301 Capital stock 320,000
Accounts payable 215,040 Retained earnings, deficit (160,000)
Notes payable, P75,264 of which is Total P1,552,000
secured by inventories 143,360
Mortgage note payable 180,634 Additional information:
Common stock, P10 par 358,400 1. The land and the buildings are pledged as security for
Retained earnings, deficit 212,890 the mortgage payable.
2. In January, 2016, BRAVEHEART received P8,000 from
a customer as payment in advance for merchandise
that is no longer marketed and thus can no longer be
Additional information: provided.
(1) Estimated liability to the trustee is P93,184. 3. Activities of the trustee during June are summarized as
(2) A delivery van previously given to the supervisor was follows:
returned to the company, fair market value, P89,600. a. P57,600 is collected on the receivables.
b. Inventories are sold for P155,200.
REQUIRED: c. Land and buildings bring total of P800,000.
a. Prepare a statement of affairs as of August 1, 2016. d. Nothing is realized from the intangible assets.
b. Compute the estimated recoverable amounts to the e. Administrative expenses of P65,600 are incurred
different types of creditors in the event of liquidation. by the trustee.
c. Prepare a statement of deficiency to unsecured REQUIRED:
creditors. Prepare journal entries in the books of the trustee and in
the books of the distressed company for the above
transactions.

MULTIPLE CHOICE

The following were taken from the statement of affairs of P130,000)

HARASSED COMPANY. Other assets 80,000
Assets pledged with fully secured P71,000 Liabilities with priority 42,000
creditors Unsecured creditors 200,000
Assets pledged with partially secured 12,500 2. In the event of liquidation at this point, how much is
creditors the estimated amount recoverable by partially-secured
Free assets 11,000 creditors?
Preferred creditors 3,000 a. P130,000 c. P 74,000
Fully secured creditors 69,000 b. P 50,000 d. P200,000
Partially secured creditors 20,000
Unsecured creditors without priority 18,000 The following information is available concerning
1. The estimated deficiency to unsecured creditors is INSOLVENT, INC. on the date the company entered
a. P 5,000 c. P15,500 bankruptcy proceedings:
b. P12,500 d. P14,500
Account Balance per Books
INSOLBENT, INC. has had severe financial difficulties and Cash P3,661
is considering the possibility of liquidation. At this time, Accounts receivable 66,893
the distressed company has the following assets (stated at Inventory 35,840
net realizable value) and liabilities: Prepaid expenses 550
Assets (pledged against debts of P 116,000 Buildings, net 75,520
P70,000) Equipment, net 7,168
Assets (pledged against debts of 50,000

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Goodwill 7,232  The BUREAU of INTERNAL REVENUE has a P19,200

Wages payable (3,200) recorded judgment for unpaid corporate income tax.
Taxes payable (2,317)  JOG Office Supplies has an unsecured claim of P4,800
Accounts payable (101,120) that was timely filed.
Notes payable (19,392)  Nanstar Electric Company has an unsecured claim of
Common stock (92,160) P16,000 that was timely filed.
Retained earnings, Deficit 21,325  Liquid Corporation is owed P80,000 in a loan contract
secured by KAMILANG’s notes receivable which realized
Inventory with a book value of P25,600 is security for P96,000.
notes of P12,800. The other notes are secured by the  Decoy Publications has a claim of P25,600, which is
equipment. secured by KAMILANG’s inventory that was valued and
sold, in bankruptcy, for P3,200. The claim was timely
Expected realizable values of the assets are: filed.
Accounts receivable P56,448
Inventory 23,680 6. Calculate the total amount recoverable by partially-
Buildings 28,160 secured creditors:
Equipment 2,560 a. P0 c. P130,400
b. P10,400 d. P 19,200
3. What is the estimated deficiency to unsecured
creditors?
7. Calculate the total amount recoverable by unsecured
a. P 11,520 c. P 92,800
creditors with priority:
b. P 83,840 d. P101,120 a. P 80,000 c. P130,400
b. P 10,400 d. P 19,200
Items 4 and 5 are based on the following:
Because of inability to pay its debts, the WHAHAPEND 8. Calculate the total amount recoverable by fully secured
MANUFACTURING COMPANY has been forced into bankruptcy creditors:
as of April 30, 2016. The balance sheet on that date a. P 80,000 c. P130,400
shows: b. P 5,200 d. P 19,200
ASSETS
Cash P 4,320 9. Calculate the total amount recoverable by unsecured
Accounts Receivable 62,960 creditors without priority:
Notes Receivable 29,600 a. P0 c. P14,400
Inventories 140,560 b. P10,400 d. P 19,200
Prepaid expenses 1,520
Land and building 98,000 A distressed corporation is to be liquidated and has the
Equipment 78,080 following liabilities:
P 415,040 Income taxes P 16,000
LIABILITIES Notes payable, secured by land 240,000
Accounts payable P 84,000 Accounts payable 166,000
Notes payable 106,000 Salary payable, evenly to two employees 12,000
Accrued wages 2,960 Bonds payable 140,000
Accrued taxes 7,440 Administrative expenses for liquidation 40,000
Mortgage bond payable 144,000
Common stock – P20 par 120,000 The said company has the following assets:
Retained earnings (49,360) Book value Fair value
P415,040 Current assets P 128,000 P 67,600
Additional information: Land 160,000 180,000
a. Accounts receivable of P27,120 and notes receivable Building and equipment 160,000 220,000
of P20,000 are expected to be collectible. The good
notes are pledged to P24,000 of the notes payable. 10. How much will the holders of notes payable collect
b. Inventories are expected to bring in P72,160 when following the liquidation?
sold under bankruptcy condition. a. P216,000 c. P166,000
c. Land and buildings have an appraised value of b. P180,000 d. P240,000
152,000. they serve as security on the bonds.
d. The current value of the equipment, net of disposal The GLOOMY COMPANY has the following data in connection
cost is P14,400. with its bankruptcy petition with the Securities and Exchange
Commission at the end of 2016.
4. What is the estimated payment to all creditors?
a. P 164,000 c. P 190,000 Liabilities without priority P 460,000
b. P 344,400 d. P 290,000 Liabilities with priority 220,000

5. Calculate the estimated total amount recoverable on the Secured liabilities

notes payable. Debt 1, P420,000; value of pledged asset P 360,000
a. P 72,080 c. P 22,720 Debt 2, P340,000, value of pledged asset P 200,000
b. P106,000 d. P 78,480 Debt 3, P240,000, value of pledged asset P 280,000

KAMILANG INC. a closely-held corporation was undergoing The company also has a number of other assets that are not
liquidation. The total cash value of KAMILANG’s bankruptcy pledged in any way. The creditors holding Debt 2 want to
estate after the sale of all assets and payment of receive at least P284,000.
administrative expenses is P240,000. 11. For how much do these free assets have to be sold so
that Debt 2 would receive exactly P284,000?
KAMILANG has the following creditors: a. P 616,000 c. P680,000
 Fracon Bank is owed P120,000 on a mortgage loan b. P 396,000 d. P576,000
secured by KAMILANG’s real property. The property was
valued at and sold, in bankruptcy, for P112,000.

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