1.
Overview
This learning material provides discussion of Corporate Liquidation concepts. It
introduces the learner to the subject, guides the learner through the official text, develops the
learner’s understanding of the requirements through the use of examples and indicates significant
judgements that are required in corporate reorganization. Furthermore, the module includes
questions that are designed to test the learner’s knowledge of the concepts pertaining to
accounting for special transactions.
2. Desired Learning Outcomes
At the end of the learning session, you should be able to:
a. Define corporate liquidation.
b. Identify the causes of corporate liquidation.
c. Enumerate the reports need to be prepared by the accountant in the process of
corporate liquidation.
d. Understand the accounting procedures, concepts of corporate liquidation.
3. Content/Discussion
CORPORATE LIQUIDATION
In the preceding module, the discussion was centered on the procedures for liquidating a
partnership. What if it is a corporation? Will it be liquidated based on the same reasons as that of
a partnership? Recall that a partnership may be liquidated by the acts of the partners such as
when the purpose for which it was put up has been accomplished or by operation of law such as
when a partner dies or by juridical decree such as when fraud or misrepresentation was
committed by the partner(s). For a corporation, the most common reason for its liquidation is
when it is financially distressed or bankrupt and unable to meet its outstanding obligations as
they become due. Some firms are experiencing financial difficulties because of global recession.
So far, only a few bankrupt firms have been reported in the Philippines since 2000, most recent
are the rural banks (of the Legacy Scandal) that were declared insolvent as a result of a
syndicated estafa. As defined by law, insolvency exists when the aggregate properties of the
business is less than its total liabilities. Thus, it may be liquid in the sense that there is sufficient
cash to pay its current obligations but it may also be insolvent, as contemplated by law, if its total
liabilities exceeds its total assets.
COURSE OF ACTION - TO REHABILITATE OR TO LIQUIDATE
The bankruptcy system must help rehabilitate the debtor-firms otherwise the economy of the
country will suffer. Closure of firms will mean mass lay off, creditors will not be paid, business
with suppliers will be cut and other businesses affected by the bankrupt company's
service/product would also be adversely affected. It is for these reasons that the Bankruptcy Law
was revised and PD 902 was passed in 2000. The SEC was given power to appoint a
rehabilitation officer or a management committee but the jurisdiction over bankrupt firms was
transferred to the regional courts in the year 2000. The firm may undertake reorganization or
liquidation, voluntarily with the officers of the insolvent firm filing a petition in court or the
creditors could go to court and file for an involuntary bankruptcy petition against the firm.
The following courses of actions may take place when the insolvent firm and its creditors
agree to:
a) quasi-reorganization through revaluation of properties or recapitalization
b) troubled debt restructuring
c) bankruptcy liquidation
d) equity receivership
BANKRUPTCY PROCEEDINGS
As a last resort, where possibility of recovery by the business is remote or the possibility
of loss to the creditor is so great, the creditors may organize themselves and take control of the
insolvent firm's assets in an attempt to control their interests. It should be observed that any
attempt of the debtor-business to effect a settlement without recourse to courts may be construed
as an act of bankruptcy and thus may be made the basis for commencement of involuntary
bankruptcy proceedings. It is better however that claims be settled with resulting to bankruptcy
actions. After the bankruptcy proceedings, the debtor is discharged of most of his debts and he
may start with the rehabilitation of the business. The bankruptcy proceedings involves the sale of
non-cash assets of the beleaguered enterprise and distribution of the cash proceeds to the
creditors. The following rules for the payment of obligations, in the order of priority, should be
observed:
1) Creditors having security interests (meaning certain assets have been pledged as
security to them) are generally entitled to a satisfaction of their claims from the assets pledged.
2) Certain creditors known as creditors with priority or preferred creditors without
security are entitled by law to priority treatment. It means that their claims are satisfied in full, if
possible, from the sale of non-collaterized assets. Unsecured creditors without priority receive
cash in proportion to the amounts of their claims from the remaining proceeds of realization of
the debtor's assets.
As regards to no. 2 described above, the claims that are given priority and have to be liquidated
in full, before claims of other unsecured creditors can be satisfied, are as follows:
1) The costs and expenses of administration, including the actual and necessary costs and
expenses of preserving the debtor's estate after filing the petition. Among these costs and
expenses would be referee's salary and expenses, filing fees, attorney's and trustee's fees,
expenses of recovering concealed or fraudulently transferred assets, etc.
2) Wages and commissions to each claimant, that have been earned within three months before
the date of commencement of proceedings, due to workmen, servants, clerks, or
traveling or city salesmen.
3) Costs and expenses of creditors successful in having the confirmation of an arrangement or
wage-earner plan or bankrupt's discharge refused, revoked, or set aside; or securing the
conviction of any person for a bankruptcy offense.
4) Taxes legally due and owing by the bankrupt to the Government or any of its subdivision or
instrumentalities.
5) Debts owing to any person entitled to priority by laws; and also rent for actual use and
occupancy, accrued within three months before the date of bankruptcy, owing to a landlord who
is entitled to priority under applicable law.
Although bankruptcy is a means of securing release from past obligations, such a release is not
applied to all forms of debt. Certain obligations continue in effect and must still be paid after
formal discharge of the debtor.
The bankrupt-business is not released from the following:
1) Taxes due to the government.
2) Liabilities for obtaining money or property by false pretenses or false representations, for
willful and malicious injuries to the person or the property of another, for alimony or for
maintenance or support of a wife or child, that is due or to become due, etc.
3) Debts not duly scheduled in time for proof and allowance when a creditor had no notice or
actual knowledge of bankruptcy proceedings.
4) Debts created by fraud, embezzlement, misappropriation, or defalcation while the debtor was
acting as an officer or in any fiduciary capacity.
5) Wages, salaries, or commissions earned within three months before the date of
commencement of proceedings due to workmen, servants, clerks, or traveling salesmen.
6) Money of an employee received or retained by an employer to secure the faithful
performance of the terms of a contract of employment.
The adjudication of a person or a business entity as a bankrupt operates as an application
for his discharge in bankruptcy. A bankrupt will be denied a discharge if found guilty of certain
actions such as:
1) Destroyed, mutilated, falsified, concealed, or in certain cases failed to keep or preserve books
of accounts or records.
2) Obtained money or property on credit, or obtained an extension or renewal of credit, by a
materially false statement in writing as to his financial condition.
3) Transferred, removed, destroyed, or concealed any of his property with intent to hinder, delay
or defraud creditors within twelve months prior to the filing of the bankruptcy petition.
4) Refused to obey any lawful order of, or answer any material question approved by the court.
5) Failed to explain satisfactorily any losses of assets or deficiencies of assets to meet his
liabilities.
6) Was granted a discharge or had a composition confirmed under the Act in a bankruptcy
proceeding commenced within six years prior to the date of the filing of the bankruptcy petition.
All these proceedings starting from the preservation of assets to sale of non-cash assets
and payment of liabilities are under a receiver or marshal who may be appointed by the court. A
referee who is an officer of the court supervises and reviews the proceedings. Creditors must
prepare a statement setting forth their claims as well as other relevant information to such claims
or property pledged on the claim.
STATEMENT OF AFFAIRS
The going concern assumption which is primarily one of the principles underlying the
preparation of the financial statements is abandoned when bankruptcy proceedings is the only
recourse of a corporation which is in severe financial trouble. The accountant must prepare a
report concerning the insolvent's financial position and the status of the creditors with respect to
the insolvent's assets. This is accomplished with the preparation of a Statement of Affairs.
The purpose of this statement is to present the assets and liabilities of the debtor
enterprise from a "quitting concern" viewpoint therefore the assets should be valued at the
current fair values while its carrying amounts or book values are presented on a memorandum
basis. Additionally, the assets and liabilities are classified according to the rankings and priorities
as set forth in the Bankruptcy Code. From the viewpoint of the creditors, specially the unsecured
creditors, this statement helps them decide on what course of action to take against the insolvent
debtor. It may also be requested by a receiver or trustee as a means of informing creditors of the
possible outcome of any course of action.
The main sections of a statement of affairs are as follows:
Assets: Assets pledged with fully secured creditors
Assets pledged with partially secured creditors
Unpledged or free assets
Liabilities: Preferred, but unsecured creditors
Fully secured creditors
Partially secured creditors
Unsecured (unpreferred) creditors
Contingent liabilities (if any)
Capital: Share Capital
Deficit
Appropriated retained earnings
Assets Pledged with Fully Secured Creditors - under this heading is listed any asset that is
expected to realize an amount equal to or in excess of the balance of the claim on which it has
been pledged as security.
Assets pledged with partially secured creditors - under this heading is listed any asset that is
expected to realize an amount lower than the balance of the claim on which it has been pledged
as security.
Unpledged or free assets - under this heading is listed any asset that has not been pledged as
security and therefore not related to any individual liability item.
Preferred Creditors - under this heading is listed any claim that, by law, must be provided for
in full before anything may be paid on remaining unsecured claims. Based on Section 50 of
Insolvency Law.
Fully Secured Creditors - under this heading is listed any claim on which there is a pledge of
certain property that is expected to realize as much or more than the amount of the claim.
Partially Secured Creditors - under this heading is listed any claim on which there is a pledge
of certain property that is expected to realize less than the amount of the claim. Unsecured
Creditors - under this heading is listed any claim that carries no legal priority and on which
there is no property pledged.
Contingent Liabilities -under this heading is listed any contingent liability which is expected to
develop into an actual liability, otherwise it has no place in the statement of affairs.
Share Capital - under this heading is shown the issued and outstanding shares. Retained
Earnings - under this heading is shown the balance of the retained earnings or deficit.
Appropriated Retained Earnings - under this heading is listed all appropriations from retained
earnings.
ESTIMATED CLAIM SETTLEMENT
In estimating claim settlement, the balance sheet shall be restated to valuation relevant for
liquidation:
a. Assets = net realizable values (estimated selling prices less disposal expenses)
b. Liabilities = estimated settlement values
Excess Excess Estimated
Liabilities Assets Deficiency
Assets pledged to fully secured creditors P1,000,000
-
Fully secured liabilities ( 800,000 P 200,000-
)
Free assets 600,000-
Priority creditors ( 150,000)
Assets pledged to partially secured P 400,000-
creditors
Partially secured liabilities ( 500,000)
Unsecured portion of partially secured P 100,000-
creditors
Unsecured creditors 700,000 - -
Total P 800,000 - P 650,000 P 150,000
Notes:
Recovery Percentage = Net free assets/Unsecured without priority.
Payments to:
Fully secured creditors = 100%
Partially secured creditors:
Secured part = 100%
Unsecured part = unsecured part x recovery %
Unsecured with priority = 100%
Unsecured without priority = unsecured without priority x recovery %
Three (3) years to liquidate
The extinguishment of juridical personality happens in dissolution
VALUATION
1. Asset – Fair Value
2. Liabilities – Maturity Value (Principal + Interest)
Percentage of Recovery (POR) = Net Free Assets
Total Unsecured Creditors Without Priority
STATEMENT OF REALIZATION AND LIQUIDATION ACCOUNT
The realization and liquidation account is essentially a statement of accountability reflecting the
activities of the fiduciary - either a receiver or a trustee - in converting the debtor's non.com
assets and proceeding with the orderly distribution of the proceeds in settlement of the debtor's
several liabilities. To this report is normally appended the fiduciary's cash account. The orthodox
report form consists essentially of three principal divisions.
*NOTE: Statement of Realization no cash
STATEMENT OF REALIZATION AND LIQUIDATION
Assets to be realized (ATBR) Assets realized (AR)
Noncash assets, beg. PPE – net proceeds
Assets acquired (AA) / on Asset Receivables – collection
Interest Receivable Inventory – cost of
sales
Accounts receivable Assets not realized (ANR)
Noncash asset, end.
Liabilities liquidated (LL) Liabilities to be liquidated
(LTBL)
Liabilities not liquidated (LNL) Liabilities assumed (LA) /
Ending balance of the liabilities Accrued Expenses
Supplementary charges /expenses Accounts Payable
Cost of sales 10. Supplementary credits / revenue
Accrued expenses Sales
NET INCOME/LOSS Accrued Interest Income
NET LOSS/LOSS
ILLUSTRATIVES:
In accounting for corporate liquidation, which of the following statement is incorrect?
A. Fully secured creditors no longer share in the remaining free assets after payment of an
secured liabilities without priority.
B. Assets used as security for partially secured liabilities are offsetted to their secured debts
and can no longer be used to pay unsecured liabilities.
C. Unsecured credits with priority such as liabilities to employees and taxes due to
government can always be fully recovered by the said creditors in every corporate
liquidation.
D. The unsecured portion of the liabilities to partially secured creditors are added to
unsecured credits without priority in the computation of recovery percentage of the
unsecured creditors without priority.
Illustrative 1: The following were taken from the Statement of Affairs of Interlink Corporation:
Assets pledged with fully secured creditors (current fair value is P 208,000
P166,000)
Assets pledged with partially secured creditors (current fair value is 144,000
P112,000)
Free assets (current fair value is P104,000) 124,000
Liabilities with priority 26,000
Fully secured creditors 76,000
Partially secured creditors 136,000
Unsecured creditors 276,000
Required: Determine the following:
1. The estimated amount to be paid to fully secured creditors:
a. P76,000 b. P90,000 c. P166,000 d. P208,000
2. The estimated amount to be paid to unsecured creditors with priority:
a. P26,000 b. P20,000 c. P16,812 d. P14,560
3. The estimated amount to be paid to partially secured creditors:
a. P112,000 b. P125,440 c. P136,000 d. P144,000
4. The estimated amount to be paid to unsecured creditors without priority:
a. P154,480 b. P154,560 c. P194,000 d. P276,000
Illustrative 2: The following information was available on March 31, 2008 for Liquidation
Corporation, which became bankrupt:
Cash P 16,000
Trade accounts receivables, net (current fair value equal to carrying 184,000
amount)
Inventories: Net realizable value, P72,000; pledged on P84,000 of notes 156,000
payable
Plant assets: current fair value, P269,600; pledged on mortgage notes 536,000
payable
Accumulated depreciation on plant asset (108,000)
Supplies: current fair value, P6,000 8,000
Wages payable, all earned during March 23,200
Property taxes payable 4,800
Trade accounts payable 240,000
Notes payable, P84,000 secured by inventories 160,000
Mortgage payable, including accrued interest of P1,600 201,600
Common stock, P5 par 400,000
Deficit 237,600
Required: Determine the following
1. The estimated losses on realization of assets is
a. P0 b. P84,000 c. P158,400 d. P244,400
2. The estimated gain on realization of assets is
a. P0 b. P84,000 c. P158,400 d. P244,400
3. The expected recovery percentage of unsecured creditors is
a. 75% b. 78% c. 79% d. 98%
4. The estimated deficiency to unsecured creditors is
a. P86,000 b. P82,000 c. P70,000 d. P54,000
EXAM DRILL PROBLEMS:
1. The El Dorado Corporation found itself in a very stiff financial condition caused by
deficiency of liquid assets. On February 8, 2008, the following information was available:
Cash P 112,000
Assets Not Realized:
Accounts receivables 80,000
Merchandise inventory 160,000
Investment in shares of stock 26,400
Land 100,000
Building 60,000
Machinery and Equipment 48,000
Liabilities Not Liquidated:
Notes payable P 244,000
Accounts payable 288,000
Taxes payable 8,000
Bank loan 180,000
Estate deficit 173,600
During the six-month period ending July 31, 2008, the trustee sold the Investment in
Common Stocks for P26,000, realized P84,000 for the accounts receivables, sold the
merchandise for P152,000, and paid-off P26,000 of the bank loan and all liabilities with
priorities (salaries and wages payable, taxes payable) as well as P7,440 for estate
administration expenses.
The estate deficit, ending (July 31, 2008) is
a. P161,760 b. P178,000 c. P185,440 d. P189,440
2. The net (gain) loss on realization and liquidation is
a. P11,840 loss b. P11,840 gain c. P15,840 loss d.
P4,400 loss
3. The following data were taken from the statement of realization and liquidation of XYZ
Corporation for the quarter ended September 30, 2008:
Assets to be realized P 330,000
Assets acquired 360,000
Assets realized 420,000
Assets not realized 150,000
Liabilities to be liquidated 540,000
Liabilities assumed 180,000
Liabilities liquidated 360,000
Liabilities not liquidated 450,000
Supplementary credits 510,000
Supplementary debits 468,000
The ending balances of capital stock and retained earnings are P300,000 and P120,000,
respectively. What is the net income (loss) for the period? How much is the ending balance
of cash?
a. P168,000; P720,000 c. P(210,000); P560,000
b. P(168,000); P720,000 d. P42,000; P560,000
4. The following statement of realization and liquidation is presented to you:
Assets:
Assets to be realized P 1,375,000
Assets acquired 750,000
Assets realized 1,200,000
Assets not realized 1,375,000
Liabilities:
Liabilities liquidated P 1,875,000
Liabilities not liquidated 1,700,000
Liabilities to be liquidated 2,250,000
Liabilities assumed 1,625,000
Revenues and Expenses:
Supplementary charges P 3,125,000
Supplementary credits 2,800,000
The net gain (loss) is:
a. P250,000 b. (P325,000) c. P425,000 d. P750,000
5. Desperate Co.’s statement of affairs shows the following information:
Estimated gains on realization of assets P
1,440,000
Estimated losses on realization of assets 2,000,000
Additional assets 1,280,000
Additional liabilities 960,000
Capital stocks 2,000,000
Deficit 1,200,000
The expected recovery percentage of stockholders is
a. 30% b. 43% c. 57% d. 70%
RECEN T CPALE QUESTIONS
AAA Company is bankrupt and has undergone corporate liquidation. Presented below is the
statement of financial position before the start of liquidation:
Cash 300,000 Accounts Payable 100,000
Machinery 500,000 Salaries Payable
200,000
Building 1,200,000 Income Tax Payable 300,000
Loan Payable 400,000
Mortgage Payable 500,000
Contributed Capital 800,000
Deficit (300,000)
Liquidation expenses amounting to P600,000 were paid.
The loan payable is secured by the machinery with fair value of P300,000.
The mortgage payable is secured by the building (fair value equal to book value).
At the end of liquidation, the holder of loan payable received P340,000
1. What is the amount received by the holder of accounts payable at the end of liquidation?
(May and Oct 2019 CPALE)
a. 85,000
b. 15,000
c. 40,000
d. 60,000
2. What is the amount of net free assets available at the end of liquidation? (May. 2019
CPALE)
a. 80,000
b. 40,000
c. 120,000
d. 200,000
Cagayan Company is experiencing financial problems which resulted to ultimate bankruptcy.
The statement of financial position of the entity before liquidation is presented below:
Cash 100,000 Income Tax Payable
200,000
Inventory 300,000 Salaries Payable
300,000
Land 200,000 Notes Payable
800,000
Mortgage Payable 100,000
Accounts Payable 400,000
Contributed Capital 500,000
Deficit (1,700,000)
The note payable is secured by the inventory with net realizable value of P250,000
The mortgage payable is secured by the land with fair value of P120,000
3. What is the amount received by the holder of the note payable at the end of corporate
liquidation? (Oct. 2018 CPALE)
a. 320,000
b. 300,000
c. 250,000
d. 260,000
4. What is the amount received by the holder of the mortgage payable at the end of
corporate liquidation? (Oct. 2018 CPALE)
a. 120,000
b. 200,000
c. 150,000
d. 100,000
5. What is the amount received by the employees at the end of the corporate liquidation
concerning their salaries? (Oct. 2018 CPALE)
a. 100,000
b. 120,000
c. 72,000
d. 300,000
References
1. Manuel, Z.V. (2016). Advanced Accounting. Manila, Philippines: GIC Enterprises
2. Advanced Financial Accounting and Reporting review materials by Wency Giron
