Accounting – Liquidation Value
Liquidation value is the sum an organisation is capable of selling its assets as well as for settling its liabilities under a rushed condition. This idea appeals to the valuation of an organisation which is considered to be going into bankruptcy protection and it is important variable when it comes to double entry accounting. One can separate the concept into two different forms which can bring to distinct liquidation values:
- Orderly basis. One can carry out the event of liquidation on such a basis. This indicates that the seller may spend some time to research and analyse potential buyers as well as the prices they offer.
- Forced basis. If the event of liquidation is forced, for example, by an auction which only lasts for a day, the seller will obtain a lower value compared to if he liquidates his firm in an orderly basis.
One may extend the idea of liquidation value to the net liquidation cost; for instance, the costs that a third-party liquidation service is charging the individual who hire them to manage the sale.
Regardless of which approach of liquidation valuation one is using, the amount that he has calculated is going to be lower than the fair market value. This is because there is not enough time for the sale transaction to let all the potential buyers notice the sale. If the number of buyers who know about the sale increases, they may bid the purchase price of the assets to a higher level. This is different from impairment (Also see Impairment versus Depreciation of Fixed Assets) as it is not the circumstance that cause the decrease in value but instead it is due to urgency.
Besides, one can also compare the liquidation value of a firm to its stock’s market price. If the liquidation price has surpassed its market price (Also see Basic Financial Ratios), a logical presumption will be the investors are not confident that the management can make improvements in the business’s prospects. Under such a circumstance, a feasible option is to liquidate the firm and give back all the residual cash to its investors. This can be the best return that a firm may probably give to its investors.
Apart from that, one may also use liquidation value as the lowest-end estimation of the value of a company which an acquirer has the intention of purchasing it. Although the price the acquirer pays may not be the firm’s liquidation value, it has established the lowest price of possible bid amounts.
You may find the concept of liquidation hard to understand if you do not have any prior knowledge in financial accounting (Also see What is Financial Accounting and Management Accounting). However, liquidation is something that you will not wish to see in your business as it indicates that your company is insolvent, and you are near to the end of your entrepreneurship journey. Hence, it is of utmost importance for you to manage your finance well by hiring an accounting firm in Johor Bahru so that you have a tight grip on the financial health of your business.