As an entrepreneur, you need to have a plan in case you have to close your business. Perhaps your business can’t pay its debts, or maybe you want to retire. Regardless of what happens, you should be aware of one of your options for closing your business: small business liquidation. What is liquidation?
What is liquidation?
Liquidation is the process of selling a business’s assets to produce enough cash to pay back creditors. It ends in the business closing. If a company is not able to make ends meet, liquidation is one option to pay creditors and close the business.
Liquidation is just one business exit strategy option. An exit strategy is how you plan on selling your investment in your business. Other exit strategies you might consider before liquidation are mergers, acquisitions, and Initial Public Offerings.
Why liquidation?
There might be a few reasons you decide to liquidate your business. If you have too many debts to pay and not enough money, you might need to liquidate your business.
Liquidation is an option if you decide you don’t want to be a small business owner anymore. Maybe you just want to try something else.
Types of assets
There are many types of assets a business could liquidate:
- Equipment (e.g., computers, forklifts, copy machines)
- Furniture (e.g., couches, desks, chairs)
- Inventory (e.g., raw materials, works in progress, and finished goods)
The Small Business Administration (SBA) suggests purchasing your leases if you only have a few more payments to make. Paying $100 to purchase your lease and selling it for $1,000 to someone else is a smart business decision. And, donating outdated equipment, furniture, and inventory to charity will earn you small business tax deductions.
Who do the assets pay?
When a business undergoes liquidation, you liquidate assets to pay off debt. This means that a business’s assets are sold and turned into cash to pay high-priority creditors.
Here are some of the high-priority creditors with claims to your business’s liquidated assets, ordered from highest priority to least priority.
Secured creditors
Secured creditors are lenders with collateral, a security promised for loan repayment. The collateral is different than the liquidated assets. After selling the collateral, secured creditors use the cash from the sold assets to cover the rest of the loan.
One example of a secured creditor is the bank or financial institution that loaned the business money to purchase an item.
Unsecured creditors
An unsecured creditor does not receive collateral. These types of creditors include credit card companies, the government, and employees.
If you owe the government any taxes, it will have claims to your liquidated assets. Likewise, if you owe your employees wages, they have a claim to the assets.
Shareholders
It is unlikely that there will be shareholders involved in a small business. However, if there are shareholders, they are also entitled to the last bit of liquidated assets.
If there are assets left, investors in preferred stock receive money followed by holders of common stock.
Business owner
Any remaining money after paying all creditors belongs to the business owner. In most cases, there is not leftover money after paying creditors.
How to liquidate a business
When you liquidate a business, you don’t just sell your laptop and call it a day. Here are some steps to liquidating a business to help the process go smoothly.
1. Talk to your accountant and lawyer
Before you can liquidate your business, you must first talk with your business’s lawyer and accountant. And, you need to tell your creditors beforehand that you will be pursuing liquidation.
Your lawyer and accountant can help recommend how to sell your assets, and they will help you through the process.
2. Prepare your assets
Make sure you have an accurate count of your inventory. Then, you want to make the items look appealing so that you can sell them.
When you intend to sell a car, you make it look its best so you get the most money for it. Likewise, make sure all your assets look presentable. Provide warranties and records with any equipment you plan on selling.
3. Work with an appraiser
Set the prices of the items you will be selling by working with a qualified appraiser. Keep in mind that the liquidation value of your assets will give you at least 20% less than retail value.
Working with the appraiser will help you estimate the end sale amount. Make sure to deduct costs of the sale when figuring out your net sale income.
4. Determine the type of sale
You have a few different options when it comes to selling your assets. You might choose to have one of the following:
- Negotiated sales. Buyers include your competitors, customers, suppliers, and landlord. These types of sales are not very common but are useful when a company needs immediate financial help.
- Consignment sales. This type of sale might be an option if time is not a factor in your liquidation sale. Turn your assets over to a local dealer who sells them and pays you after the sale.
- Internet sales. If you understand the rules and legalities associated with selling online, an internet sale might be a good option for you. This type of sale is very popular.
- Sealed bid sales. If confidentiality is important, you might want to do a sealed bid sale when you liquidate your business. Bids are submitted in sealed envelopes, and all bids are opened at the same time and place.
- Retail sales/going-out-of-business sales. If your business specializes in consumer items, you might consider a retail sale. This is when you have a big sale at your business to attract customers and sell as much of your products as possible.
- Public auctions. Having a public auction for your business assets might sell them quickly. Hire an auctioneer to make sure the auction is done correctly.
Liquidation and bankruptcy
If you want to get rid of your business, you can choose to declare bankruptcy. A business can liquidate with or without declaring small business bankruptcy. You can file for Chapter 7 bankruptcy if you are a sole proprietor or if you have ownership in a partnership or corporation. Under Chapter 7 bankruptcy, small business owners’ debts are forgiven after the liquidation process.
Again, you do not need to declare bankruptcy in order to liquidate your business’s assets. Consult your lawyer for information.
Keeping your books organized helps you stay on top of business finances. Patriot’s cash-basis accounting software tracks your expenses and income when you spend and receive money. And, we offer free support. Try it for free today!
This article was updated from its original publish date of 09/26/2012.
This is not intended as legal advice; for more information, please click here.