What Is a Liquidating Dividend?

The investment world is filled with jargon like returns, interests, dividends, securities, etc. One of the well-known of these is dividend. But did you know that there are different kinds of dividends like liquidating dividends, cash dividends, stock dividends, etc? 

In this blog, we go through the intricacies of one of the types of dividends – liquidating dividends. Buckle up and let’s start this exploring journey together as we go through the meaning of this jargon, how it is calculated, its importance, as well as how it is different from other dividends.

What Is a Liquidating Dividend?

As the name suggests, a liquidating dividend is paid out by the company through funds from liquidating part or whole of the company’s assets. This type of dividend is usually paid out when a company decides to close up its business operation and carries out the liquidating procedure. This procedure involves converting the assets of the companies to cash and using that cash to pay off the company’s debts. 

It can be said that liquidating dividend is the last dividend payout of the company before getting dissolved. This payout only occurs after the company has settled all outstanding debts and liabilities. However, the company is not obliged to pay out this dividend if it goes out of funds after paying off the debts.

Formula To Calculate Liquidating Dividend

The formula for calculating a liquidating dividend can be easily derived from the dissolving prices of a company. 

Liquidating Dividend = Funds from assets sold – Total Liabilities – Liquidation Costs

Here, 

• Total liabilities include all the current as well as non-current liabilities such as bank loans, creditors (secured and unsecured), etc.
• The liquidation costs include lawyer fees, court fees, and other expenses incurred in the course of liquidation.

Let us understand with an example:

XYZ Ltd. is winding down its operations and by selling all its assets, it generates ₹50,00,000. The company’s total liabilities amount to ₹20,00,000. Additionally, the liquidation costs, such as lawyer fees, court fees, and other related expenses, amount to ₹5,00,000.

Formula:

Liquidating Dividend= Funds from assets sold − Total Liabilities − Liquidation Costs

Calculation:

• Funds from assets sold: ₹50,00,000
• Total Liabilities: ₹20,00,000
• Liquidation Costs: ₹5,00,000

Liquidating Dividend=₹50,00,000 − ₹20,00,000 − ₹5,00,000

Liquidating Dividend=₹25,00,000

Therefore, XYZ Ltd. has ₹25,00,000 available to distribute to its shareholders as a liquidating dividend.

Distinguishing Liquidating Dividends

There are various kinds of dividends that the company can issue through its course of business. Let us understand how liquidating dividends differ from them.

Liquidating Dividend vs Cash Dividend

While both liquidating and cash dividends involve distributing funds to shareholders, they arise in distinct situations. Cash dividends are issued by the company during its regular course of business. These dividends are mostly paid out from the profits made by the company during the corresponding financial year/quarter.

On the contrary, payment of liquidating dividends arises after the company has shut down its operations and during the process of dissolving. As mentioned earlier, these dividends are paid from the funds received after selling off the company assets.

Liquidating Dividend vs Bonus Dividend

Another dividend term frequently encountered is the “bonus dividend.” Unlike liquidating dividends, which are distributed during a company’s closure, bonus dividends are additional payments of profits to shareholders during a profitable period.

These dividends are generally supplementary to regular dividends and are commonly employed as a strategic move to draw in investors and uphold shareholder trust.

Liquidating Dividend Benefits

• Exit Strategy: Liquidating dividends offers an exit window for companies facing challenges, settling financial obligations while distributing remaining assets to shareholders. Here, the shareholders too, get an opportunity to exit from a company performing badly in the market.
• Shareholder Recovery: Liquidating dividends provide shareholders with a chance to recover a portion of their investments during a company’s closure, offering financial consolation.
• Transparency and Fairness: Liquidating dividends promotes openness and fairness in asset distribution, ensuring shareholders are informed about financial decisions.
• Reallocation of Funds: Liquidating dividends allows investors to reallocate their funds towards securities aligning better with financial goals.

Liquidating Dividend Limitations

• Lack of Funds: Companies with significantly high debt load might not be able to pay out the liquidating dividends to their shareholders. This may be due to the company running out of funds after the repayment.
• Timing Uncertainty: The payment time of liquidating dividends can be uncertain. This is because the processes such as asset sales, debt settlements, and regulatory approvals might take time. Shareholders would require clarity on the time of distributions.
• Market Conditions: Selling assets at favourable prices would largely depend on the market conditions. Assets that have specific utilities such as plant and equipment may not be able to fetch the best price. This might affect the distribution amount to the shareholders.

Conclusion

During your investment journey, you may encounter different types of dividend payouts. This can help you understand the returns from your equity better. This article is here for you to revisit whenever you need to recharge your knowledge about liquidating dividends. Explore the Angel One blog to learn more about finance-related topics or to stay updated on the current events happening in the stock market.

If you are looking to embark on an investment journey, consider opening a demat account with Angel One. On this platform, you can manage multiple securities such as equity, bonds, ETFs, commodities, etc. with one account. Why wait? Start investing today!

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