Advanced Financial Management · Financial reconstruction

Financial Reconstruction Schemes and Stakeholder Positions in ACCA AFM

Updated 11 October 2026 · Fact-checked

A financial reconstruction scheme restructures a distressed company's capital. Lenders, creditors and shareholders give up or exchange claims, for example debt for equity, and sometimes add new cash. To design one, you compare each party's outcome under the scheme with liquidation, then adjust terms so every party is better off and the company can survive.

Understand Financial Reconstruction Schemes and Stakeholder Positions

A company in financial distress cannot pay its debts on time, or soon will not be able to. Its owners and lenders have two broad choices. They can liquidate and share the sale proceeds, or they can agree a financial reconstruction scheme that keeps the business trading. A scheme changes who owns what claim on the business. It exchanges debt, equity and cash among shareholders, lenders and creditors.

The logic is simple. Liquidation usually destroys value. Assets are sold quickly, costs are paid first, and unsecured parties often get little. If the business is worth more as a going concern than in liquidation, there is a surplus to share. A scheme is a way of sharing that surplus so that everyone prefers it to liquidation.

Typical building blocks:

Debt for equity swap: lenders give up some or all of their debt and receive shares. This cuts interest and gearing and lets lenders share future upside.
Write-down or deferral of debt: lenders accept less, or later, or at a lower interest rate.
Replacing debt with new debt: often with lower interest or a longer term, sometimes convertible.
Trade creditors: paid in full to keep supply going, or offered a part payment or shares.
Existing shareholders: they accept dilution, since their shareholding falls when new shares are issued. They may also be asked to put in new money through a rights issue.
New finance: fresh cash from existing or new investors, or a sale of assets, to fund the turnaround.

Each party has a walk-away position, which is what it would get if the scheme failed. Usually that is its liquidation recovery. A secured lender recovers from its security first. Unsecured lenders and creditors share what is left. Shareholders are last and often receive nothing. This tells you who has bargaining power. Shareholders have little to lose, so almost any positive stake improves their position. Lenders need at least their liquidation recovery, and normally a premium for the extra risk of staying in.

Good scheme design means testing each party against its walk-away position, then checking the company works afterwards. After the scheme, interest cover and gearing must be sustainable, and there must be enough cash to fund operations. If a party is worse off than in liquidation, it will vote against, and the scheme fails.

Key rules to remember

Order of claims in liquidation: Fixed charge holders (from their fixed charge assets) → liquidation costs and preferential creditors → floating charge holders → unsecured creditors (pro rata) → shareholders; Use this to find each party's walk-away value. Fixed charge holders are paid from the assets under their charge first. Floating charge holders rank after costs and preferential claims. Follow the priority order stated in the question; do not assume a different ranking.
Recovery rate for unsecured claims: Recovery % = Funds available for unsecured creditors ÷ Total unsecured claims × 100; Funds available include any surplus on secured assets after the secured lender is paid in full. Apply the same percentage to all unsecured claims of equal rank.
Value to a party under the scheme: Value = New debt received (at value) + Cash received + Percentage of new equity × Post-scheme equity value; Post-scheme equity value = going concern value of the business − post-scheme debt. The question normally gives the going concern value or a way to estimate it.
Acceptance test: Value under scheme ≥ Value in liquidation (for each party); A party that is no better off has no reason to agree, so aim for a clear gain. Shareholders only need a positive value because their liquidation value is nil.
Minimum equity stake for a lender: Minimum % = (Liquidation recovery − New debt and cash received) ÷ Post-scheme equity value; This gives the lowest offer a lender would accept. In practice, add a premium for the extra risk.

How to solve Financial Reconstruction Schemes and Stakeholder Positions questions

Use this method for any reconstruction scheme question. It keeps your answer focused on each party and on the final decision.

1Read the requirement and list the parties: secured lenders, unsecured lenders, trade creditors, preference shareholders, ordinary shareholders and any new investor.
2Work out the liquidation position. Apply the order of claims to the asset sale proceeds, and calculate each party's recovery in money and as a percentage.
3Set out the proposed scheme in a table or list: what each party gives up and what it receives (debt, shares, cash). Calculate post-scheme debt and the number of new shares.
4Value the company after the scheme. Use the going concern value given, deduct post-scheme debt, and split the equity value by shareholding.
5Compare each party's scheme value with its liquidation value. Show the gain or loss in money for every party.
6Check the company can survive. Look at gearing, interest cover and cash needs, including any new finance required.
7If any party is worse off, adjust the terms (more shares, less write-down, a higher interest rate, a rights issue). Re-check all parties.
8Conclude and recommend. Say whether each party would accept, whether the scheme is viable, and mention risks such as dilution, uncertain valuation and refusal by a creditor class.

Quickest way: Three-column comparison under time pressure

When to use it: Use this when you have limited time and the question gives liquidation proceeds and a going concern value. It gets the marks for calculation and for the decision.

Draw three columns: party, liquidation value, scheme value. List every party down the side.
Fill the liquidation column first using the order of claims. Do it in one pass, secured first.
Fill the scheme column: new debt + cash + equity share × post-scheme equity value.
Write the gain or loss next to each party. Circle any party that is worse off.
Write two or three sentences per party: would they accept and why, plus one comment on viability. Finish with a clear recommendation.

Common mistakes in Financial Reconstruction Schemes and Stakeholder Positions

Using book value of debt instead of realisable value in liquidation.
Students see a loan of a given size and assume it will be repaid in full.
Fix: Always start from the cash that assets would realise. Pay secured lenders from their security, then share the rest among unsecured claims.
Ignoring any surplus on secured assets.
Students treat the secured lender's asset as wholly lost to the other creditors.
Fix: If the security sells for more than the secured debt, the excess goes to the unsecured pool. Add it to the funds available.
Valuing the new equity before deducting post-scheme debt.
Going concern value is mistaken for equity value.
Fix: Equity value = going concern value − post-scheme debt. Only then share it by percentage holding.
Comparing the scheme with the current position instead of with liquidation.
It feels natural to ask whether a party is better off than today.
Fix: The real alternative is the walk-away position, usually liquidation. Compare with that and say so in your answer.
Forgetting that existing shareholders are diluted.
Students focus on lenders and forget the owners' reduced percentage.
Fix: Calculate shareholders' stake after new shares are issued. Show their value, even though any positive amount beats nil in liquidation.
Giving numbers with no recommendation or viability comment.
Students run out of time or treat the question as pure calculation.
Fix: Allocate time to a short conclusion. Comment on acceptance, gearing, cash needs and risks. These earn analysis and professional skills marks.

Worked examples

Example 1

Zeta Co is insolvent. If it were liquidated, its property would realise $9m and its other assets $5m, a total of $14m, and costs of liquidation are ignored. A bank loan of $8m is secured on the property. Unsecured claims are loan notes of $10m and trade creditors of $4m. Proposed scheme: the bank loan stays in place; the loan notes are exchanged for new loan notes of $3m plus 60% of the new equity; trade creditors are paid in full and keep supplying; existing shareholders keep 40% of the new equity. The going concern value of Zeta after the scheme is $20m. Assume this value is net of working capital liabilities, including the trade creditors, so only borrowings are deducted to reach equity value. Evaluate the scheme for each party.

Show the solution

Liquidation: the bank is paid $8m from the property. The property surplus is $9m − $8m = $1m. Funds for unsecured claims = $1m + $5m = $6m.
Unsecured claims total $10m + $4m = $14m. Recovery rate = 6 ÷ 14 = 42.857%, about 42.9%.
Loan notes in liquidation: $10m × 6 ÷ 14 = $4.286m. Trade creditors in liquidation: $4m × 6 ÷ 14 = $1.714m. Shareholders: nil.
Post-scheme debt = bank $8m + new loan notes $3m = $11m of borrowings. The scheme provides no new cash. The $20m going concern value is stated to be net of working capital liabilities, so the $4m owed to trade creditors is already allowed for in it and is not deducted again.
Equity value after the scheme = $20m − $11m = $9m. Only borrowings are deducted, because the $20m is already net of trade creditors.
Loan noteholders: new notes $3m + 60% × $9m = $3m + $5.4m = $8.4m. Against $4.286m in liquidation, they gain $4.114m.
Existing shareholders: 40% × $9m = $3.6m. Against nil in liquidation, they gain $3.6m.
Trade creditors: they are paid their $4m in full against $1.714m in liquidation, so they recover $2.286m more. This is payment of their existing claim, not new value created by the scheme, and it is met from operating cash flow. They also keep a customer.
Bank: still owed $8m, and its security covers it. In liquidation it also recovers $8m, because the $9m property covers the loan. So its position is equal, with no gain and no loss. It is asked to give up nothing, and it needs no premium for risk because it is already fully covered. If its consent were needed, it might still ask for a small incentive, such as a consent fee.
Viability: interest-bearing debt falls, with $3m of new notes replacing $10m of old ones. Interest cover on $11m of borrowings, cash flow to pay the trade creditors as they fall due, and the reliability of the $20m valuation still need checking.

Answer: Every party is at least as well off as in liquidation. Noteholders get $8.4m against $4.29m, shareholders $3.6m against nil, trade creditors are paid $4m in full against $1.71m, and the bank is equal at $8m on both bases. The bank gains nothing, but it needs no risk premium because its security already covers it. The scheme should be accepted if the $20m going concern value, which is net of trade creditors, is reliable. You should still check that the company can pay interest on $11m of borrowings and pay its trade creditors from its cash flow.

Exam tips

Always calculate the liquidation position first. Many marks depend on showing each party's walk-away value, and the rest of the answer builds on it.
Present your working as a table for each party, with liquidation value, scheme value and gain or loss. It is quick to mark and easy for you to check.
Write a short comment on each party. A calculation without a view on whether they would agree loses analysis marks.
In Section A case studies, add professional skills: question the reliability of the going concern value, point out that creditors may hold out, and recommend clear next steps.
If a party is worse off, change the terms and show the revised numbers. Do not just state that the scheme fails.

Practice questions from Financial reconstruction

Financial Reconstruction Schemes and Stakeholder Positions in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

CA IntermediateReconstruction Account and Sacrifice by Stakeholders

Financial Reconstruction Schemes and Stakeholder Positions: frequently asked questions

What is a financial reconstruction scheme in ACCA AFM?

It is an agreed change to the capital structure of a distressed company. Debt may be swapped for equity, written down or deferred, and new cash may be added. In the exam you evaluate it from the viewpoint of each stakeholder and the company.

How do I decide whether lenders will accept a debt for equity swap?

Compare what they would receive under the scheme with what they would recover in liquidation. Include new debt, cash and the value of shares received. If the scheme value is at least their liquidation recovery, and ideally higher to reward the risk, they have reason to accept.

Why would shareholders agree to be diluted?

Because in liquidation they usually receive nothing. Any stake in a surviving company is better than that. They also keep the chance of future gains if the turnaround works.

What should I comment on after the calculations?

State whether each party is better off and whether it would vote for the scheme. Then comment on viability: gearing, interest cover, cash needs, reliability of the valuation and the risk that a party holds out. End with a clear recommendation.