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ACCA Strategic Professional · Advanced Financial Management · Business re-organisation

In a reconstruction, existing shareholders are asked to accept a rights issue to fund new investment while creditors convert debt to equity. Which factor is most likely to make the shareholders accept the scheme rather than let the company be liquidated?

Shareholders are most likely to accept when liquidation would give them little or nothing, because they rank behind all creditors. Retaining even a diluted stake in a continuing business is then better than the alternative, despite dilution or new cash requirements.

  1. ATheir expected return under liquidation would be nil or very small after creditors are paidCorrect
  2. BThe scheme will increase the company's gearing
  3. CThe scheme will reduce the share of the company that they own
  4. DThe scheme requires them to inject new cash

Explanation

Shareholders rank last in liquidation, so if assets barely cover creditors' claims they receive little or nothing. A scheme that keeps some value, even diluted, is then better than liquidation. Dilution and new cash requirements are costs, not reasons to accept, and higher gearing is not a benefit.

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