When companies go bankrupt, they quickly start talking about their future. But while a small number of bankrupt companies have proven to be good investments, you need to understand that in the vast majority of cases, you won't be part of that future -- at least not with the shares you own now.
Monday's bankruptcy filing by General Motors (OTC: GMGMQ.PK) is just the latest example of the confusion that results among shareholders of bankrupt companies. Already, everyone has started talking about how the U.S. government will get a 60% equity stake in the post-bankruptcy GM, with the Canadian government, current bondholders, and the UAW splitting the remainder.
Clearly, all this talk about future GM shares has given many investors exactly the wrong idea. GM shares that are currently trading -- the ones that will be worthless in a matter of months -- actually rose for a while during Monday's trading.
Not the first time
Such confusion has come up many times before. Many companies have emerged from bankruptcy protection and issued new shares, having left investors in old shares with total losses. Below is a partial list of some of those companies, along with how their new shares have performed:
|
Company |
New Shares First Traded |
Total Return Since Offering |
|---|---|---|
|
Conseco |
Sept. 11, 2003 |
(88%) |
|
Delta Air Lines |
May 3, 2007 |
(69%) |
|
UAL Corp. |
Feb. 6, 2006 |
(84%) |
Source: Yahoo! Finance.
If you didn't look closely, you might have incorrectly assumed that the new shares that traded after bankruptcy were somehow related to those that traded for pennies before and during proceedings. But they weren't -- and often, the emerging company didn't manage to do much better even after receiving all the benefits that bankruptcy can offer.
Successful bankruptcies
However, there are some instances in which companies that file for bankruptcy don't leave current shareholders penniless. PG&E
Most of the time, bankruptcies that end up creating profits for investors involve situations in which the company can continue operating during bankruptcy proceedings. By negotiating more favorable deals with creditors and other interested parties, companies can come out of bankruptcy with a new lease on life.
Profiting from liquidation
On other occasions, a company may discover that even after going through bankruptcy, there's no reason to expect the business to be profitable going forward. In such cases, a company may decide to liquidate. Yet sometimes, even dying companies prove to be smart investments. If companies have enough assets to pay off creditors with something left over, then shareholders can reap the benefits.
Footstar, for instance, filed for bankruptcy in 2004, and by 2006, it had come up with a plan that called for the company to continue an agreement with Sears Holdings'
Dispelling any illusions
Nevertheless, no one should deceive themselves into thinking that GM shareholders will get anything out of its bankruptcy proceedings. In its filing, GM listed assets worth $82 billion against debts of almost $173 billion.
In all likelihood, GM shares will once again trade on stock exchanges after the company completes the bankruptcy process. They may even prove to be good investments. But those shares aren't the ones that are trading right now -- and anyone who thinks otherwise will get a nasty surprise when the bankruptcy court eventually declares them to be worthless.
For more on making smart moves with your investments, read about:
- The one industry you should own now.
- This mistake could cost you a fortune.
- Buy these stocks and make money.
