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1 Tool Kit Chapter 24 11/23/2018

2 Bankruptcy, Reorganization, and Liquidation
3
4 24-5 Reorganization in Bankruptcy
5
6
7 Columbia Software Company is a regional firm that specializes in selling, installing, and servicing accounting
8 software. The table below gives Columbia's balance sheet. The company had been suffering losses running to
$2.5 million a year, and the asset values in the balance sheet are overstated relative to their market values. The
9 firm was insolvent, which means that the book values of its liabilities were greater than the market value of its
10 assets, so it filed a petition with a federal court for reorganization under Chapter 11.
11
12
13 Table 24-2
14 Columbia Software Company: Balance Sheets as of March 31, 2019
15
16 Assets
17 Current assets $3,500,000
18 Net fixed assets $12,500,000
19 Other assets $700,000
20 Total assets $16,700,000
21
22 Liabilities and Equity
23 Accounts payable $1,000,000
24 Accrued taxes $250,000
25 Notes payable $250,000
26 Other current liabilities $1,750,000
27 7.5% first mortgage bonds, due 2025 $6,000,000
28 9% subordinated debentures, due 2020 $7,000,000
29 Total liabilities $16,250,000
30 Common stock ($1 par) $1,000,000
31 Paid-in-capital $3,450,000
32 Retained earnings ($4,000,000)
33 Total liabilities and equity $16,700,000
34
35
36 Reorganization Plan
37 Columbia has $10 million in liabilities. Moreland agrees to assume the mortgage bonds and pay the taxes.
38 Moreland will pay $3 million (in 40,000 shares of Moreland stock with a value of $75 per share) to the remaining
39 creditors.
40
41 Table 24-3
42 Columbia Software Company: Reorganization Plan
43
44 Panel A: Senior Claims
45 Senior Claimant Amount Result
46 Taxes $250,000 Paid off by Moreland
47 Mortgage bonds $6,000,000 Assumed by Moreland
48
49 Panel B: Junior Claims

Number of Percentage of
50 Original 30% of Claim Claim after Shares of Original Claim
Junior Claimant Amount Amount Subordination Common Stock Received
(1) (2) (3) (5) (5) (6)
51 Notes payable $250,000 $75,000 $250,000 3,333 100%
52 Unsecured creditors $2,750,000 $825,000 $825,000 11,000 30%
53 Subordinated debentures $7,000,000 $2,100,000 $1,925,000 25,667 28%
54 $10,000,000 $3,000,000 $3,000,000 40,000 30%
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55
56
57 24-6 Liquidation in Bankruptcy
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59
60 Liquidation should occur when a business is worth more dead than alive, or when the possibility of restoring it to
financial health is remote and the creditors are exposed to a high risk of greater loss if operations are continued.
61 In the case of Whitman Inc., Whitman filed for bankruptcy under Chapter 11. Since no fair and reasonable
62 reorganization could be arranged, the trustee is liquidating the firm under Chapter 7.
63
64
65 Table 24-4
66 Whitman Inc.: Balance Sheet at Liquidation
67
68 Assets
69 Current assets $80,000,000
70 Net fixed assets $10,000,000
71 Total assets $90,000,000
72
73 Liabilities and Equity
74 Accounts payable $20,000,000
75 Notes payable (to banks) $10,000,000
76 Accrued wages (1,400 @ $500) $700,000
77 Federal accrued taxes $1,000,000
78 State and local accrued taxes $300,000
79 Current liabilities $32,000,000
80 First mortgage $6,000,000
81 Second mortgage $1,000,000
82 Subordinated debentures $8,000,000
83 Total long-term debt $15,000,000
84 Total liabilities $47,000,000
85 Preferred stock $2,000,000
86 Common stock $26,000,000
87 Paid-in-capital $4,000,000
88 Retained earnings $11,000,000
89 Total equity $43,000,000
90 Total liabilities and equity $90,000,000
91
92
93 Amounts realized in liquidiation:
94 Sale of current assets $28,000,000
95 Sale of fixed assets $5,000,000
96 Total receipts $33,000,000
97
98
99 Table 24-5
100 Whitman Inc.: Distribution of Liquidation Proceeds
101
102 Distribution to Priority Claimants
103 Proceeds from the sale of assets $33,000,000
104 Less:
105 1. First mortgage (paid from sale of FA) $5,000,000
106 2. Fees and expenses of bankruptcy $6,000,000
107 3. Wages due to workers within 3 months of bank. $700,000
108 3. Taxes due $1,300,000
109 Funds avaialbe for distribution to general creditors $20,000,000
110
111 Pro Rate Distribution 50%

Distribution
112 after Percentage of
Amount of Pro Rata Subordination Original Claim
General Creditors' Claims Claim Distribution Adjustment Received
(1) (2) (3) (5) (6)
113 Unsatisfied portion of 1st mort $1,000,000 $500,000 $500,000 92%
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114 Second mortgage $1,000,000 $500,000 $500,000 50%
115 Notes payable $10,000,000 $5,000,000 $9,000,000 90%
116 Accounts payable $20,000,000 $10,000,000 $10,000,000 50%
117 Subordinated debentures $8,000,000 $4,000,000 $0 0%
118 Total $40,000,000 $20,000,000 $20,000,000
119
Tool Kit Chapter 24 WebA 11/23/2018
Multiple Discriminant Analysis
Selected information about MicroDrive from Chapter 7

Figure 7-4
MicroDrive’s Most Recent Financial Statements (Millions, Except for Per Share Data)
INCOME STATEMENTS BALANCE SHEETS
2018 2019 Assets 2018 2019
Net sales $4,800 $5,000 Cash $102 $100
COGS (excl. depr.) 3,710 3,900 ST Investments 40 10
Depreciation 180 200 Accounts receivable 384 500
Other operating expenses 470 500 Inventories 774 1,000
EBIT $440 $400 Total CA $1,300 $1,610
Interest expense 40 60 Net PP&E 1,780 2,000
Pre-tax earnings $400 $340 Total assets $3,080 $3,610
Taxes (25%) 100 85
NI before pref. div. $300 $255 Liabilities and Equity
Preferred div. $7 $7 Accounts payable $180 $200
Net income $293 $248 Notes payable 28 150
Accruals 370 400
Other Data Total CL $578 $750
Common dividends $59.4 $60.0 Long-term bonds 350 520
Addition to RE $233.6 $188.0 Total liabilities $928 $1,270
Tax rate 25% 25% Preferred stock 100 100
Number of common shares 60 60 Common stock 500 500
Price per share (P) $45.00 $31.00 Retained earnings 1,552 1,740
Earnings per share (EPS) $4.88 $4.13 Total common equit $2,052 $2,240
Dividends per share (DPS) $0.99 $1.00 Total liabs. & equity $3,080 $3,610
Dividend yield (DPS/P) 2.2% 3.2%

Weighted average
cost of capital (WACC) 11.50% 11.50%

Altman's Z-score formula

Z= 0.012 x X1 100 x Net working capital / Total assets

+ 0.014 x X2 100 x Retained earnings / Total assets
+ 0.033 x X3 100 x EBIT/Total assets
+ 0.006 x X4 100 x MV of common and preferred stock/BV of debt
+ 0.999 x X5 Sales/Total assets

Z= 0.012 x 23.82
+ 0.014 x 48.20
+ 0.033 x 11.08
+ 0.006 x 292.54
+ 0.999 x 1.39
= 4.4651962