When companies run into financial difficulties, they can seek out protection via the bankruptcy process, the same way individuals can file for bankruptcy when their debts spiral out of control. Filing for bankruptcy does not automatically mean a company is winding down operations and ceasing to exist. In some situations, that is the case, but often, a bankruptcy filing involves reorganizing a company's debts to allow business operations to continue.
But no matter what type of bankruptcy a given company files for, it can be bad news for investors who own shares of its stock. So if you have stocks in your brokerage account whose companies seem to be in trouble, you may want to unload them before those businesses file for bankruptcy.
Your stocks could become worthless
When a company files for bankruptcy, its stock gets delisted. At that point, it will only trade privately in what's known as the over-the-counter market. And any dividends that would normally be paid out to shareholders will cease.
Generally, when you add shares of stock to your brokerage account or IRA, you're buying common stock. But you should know that once a company files for bankruptcy, a trustee is appointed to make sure its assets are distributed as equitably as possible to creditors. And you should also know that as a holder of common stocks, you're basically last in line to get paid. Bondholders and investors with preferred stock will get paid before you do.
Does this mean that if a company files for bankruptcy, you'll get nothing from your shares? Not necessarily. But they may end up only being worth pennies on the dollar. And much will depend on how the bankruptcy itself shakes out.
If a company files for Chapter 7 bankruptcy, it means it's liquidating its assets and shutting down operations. In a situation like this, your chances of getting paid anything for your shares of stock are pretty slim.
But if a company files for Chapter 11 bankruptcy, it means it's reorganizing its debt with the intent to keep operating and move forward with a cleaner financial slate. In a Chapter 11, it's possible for new shares of stock to be issued to stockholders, so in a situation like that, you may not end up losing much or even any money.
Keep tabs on your investments
Generally speaking, if you own shares of a company that you think may be on the verge of bankruptcy, you're better off getting out and selling your stock before that filing becomes official. You might end up taking a loss on those shares, but it'll be a smaller loss than what you'd be looking at after a bankruptcy filing.
Along these lines, it's important to keep tabs on the companies you have money invested in. Once you start to see signs of financial decline, it should serve as a wake-up call to consider cashing out your shares before their value falls even more, or before a bankruptcy filing renders your shares worthless.
The good news is that losses you take in your investment portfolio can be used to offset gains. So if you have reason to believe a company you're invested in is about to file for bankruptcy and you sell your shares while they're worth a little bit of money, you might lose, say, $2,000 in the process. But if you have a $2,000 gain in your account, your loss will cancel it out. And if you don't have any gains, you can use your loss to offset some of your ordinary income.
Taking losses in your portfolio may not be ideal. But at least there's a silver lining from a tax perspective.
FAQs
In the event you own stock of a company that files Chapter 7 bankruptcy, it will likely become worthless and it is unlikely you will recover any of your investment (see Banks and bondholders first sidebar).
Do you lose your stock if a company files Chapter 11? ›
Practically speaking, companies usually take a significant hit to their stock value after a bankruptcy filing. Investors should understand that existing shares of common stock in a company filing for Chapter 11 usually are canceled, even if the company emerges and returns to profitability.
What happens to stock options when a company files bankruptcy? ›
Do the options keep trading until expiration date? If a company files for bankruptcy and the shares still trade or are halted from trading but continue to exist, the options will settle for the underlying shares.
What happens to the owner when a company declares bankruptcy? ›
A: When a business goes bankrupt, a Licensed Insolvency Trustee (LIT) will take over all assets and sell them off to cover the debts owed to the creditors. Unlike personal bankruptcy, no corporate asset or income is exempt from being seized.
What happens to shareholders when a company delists? ›
What happens when a stock is delisted must be an intriguing question for all the shareholders. If a company is delisted, you are still a shareholder, to the extent of a number of shares held. And yet, you cannot sell those shares on any exchange. However, you can sell it on the over-the-counter market.
Does Chapter 11 protect shareholders? ›
The Chapter 11 Debtor in Possession
A corporation exists separate and apart from its owners, the stockholders. The chapter 11 bankruptcy case of a corporation (corporation as debtor) does not put the personal assets of the stockholders at risk other than the value of their investment in the company's stock.
Do most companies survive Chapter 11? ›
The shortest possible answer is this: Yes. In some cases. But don't get your hopes up. Only about 10% of Chapter 11 filings result in success; far more often, they end up in Chapter 7 straight bankruptcy, in which the company closes and its assets are sold to pay back secured creditors.
Does stock go to zero in bankruptcy? ›
Bankruptcy impact on stocks
It's entirely possible that an investment in stock can lose money and, in the worst-case scenario, the stock value could go to zero. Unfortunately, the shares of a company that files for bankruptcy are at heightened risk.
Can a company take away your stock options? ›
If you recently left your company or are planning to leave and have vested stock options, you'll be faced with an important decision. Exercise your options or no? And you'll have to act quickly because most companies only allow 90 days to exercise options before you'll lose them.
What happens to stock options if a company fails? ›
An employer will typically replace old options with new shares designed to represent an equivalent value. An exchange typically involves a new vesting schedule. It may also have other tax implications or different tax treatment than original options.
What Happens to Stocks in Chapter 7? In a Chapter 7 bankruptcy case, any stocks that can't be protected with a bankruptcy exemption can be liquidated by the bankruptcy trustee for the benefit of creditors.
Who gets paid first in a company bankruptcy? ›
Section 507(a)
Thus, all secured creditors must be paid in full before unsecured creditors may be paid anything; and all unsecured creditors must be paid in full before holders of equity receive anything.
Does LLC bankruptcy affect the owner? ›
The corporate or LLC owner can simply walk away from the business and allow the creditors to put the business into collection or seek judgments. The corporate or LLC owner is not affected by those actions if there are no personal guarantees or they have themselves already filed for bankruptcy.
Do I lose my money if a stock is delisted? ›
The value of shares doesn't automatically rise or fall with a delisting, but when an involuntary listing takes place, it's often a sign that a company is approaching bankruptcy. In this case, there's a chance investors might lose their investment.
Can I sell my shares if a company is delisted? ›
When a stock is delisted, it can no longer be bought or sold on the exchange. However, it may still be possible to trade the shares over-the-counter (OTC) or through private transactions, depending on the circ*mstances.
Can a stock come back from zero? ›
Yes, it is possible for a stock to recover from zero.
Should I sell stock in Chapter 11? ›
Chapter 11 is for restructuring, and shareholders may receive cash and shares in the reorganized company. The value of the company's stock may decline leading up to the bankruptcy, so shareholders should consider selling their shares. Usually, they're out of luck and whatever investment they had is gone.
What happens to customers when a company files Chapter 11? ›
The company can continue to operate, but financial decisions (like paying off creditors) must be approved by a bankruptcy court. That means that your cash flow can be seriously impacted: that client's past-due invoices may eventually be paid, may eventually be paid but not paid-in-full, or may never be paid.
What happens when your employer files Chapter 11? ›
A Chapter 11 (reorganization) usually means that the company continues in business under the court's protection while attempting to reorganize its financial affairs. A Chapter 11 bankruptcy may or may not affect your retirement or health plan.
What happens to RSU when a company files Chapter 11? ›
If my company declares bankruptcy, do I have any special rights in my restricted stock or RSUs? While restricted stock or RSUs still have value even when a company's stock price is lower than the grant price (stock options would be underwater), any type of equity grant can be worthless if a company goes bankrupt.
