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What is the meaning of liquidation?

2012-05-16   Views:2

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In accounting, cash and any company possessions that can be turned into cash instantly are called “liquid” assets. A company’s “liquidity” is a measure of the amount of cash in the business, or regularly generated by it. Thus, the word “liquid” and i

What is the meaning of liquidation?

In accounting, cash and any company possessions that can be turned into cash instantly are called “liquid” assets. A company’s “liquidity” is a measure of the amount of cash in the business, or regularly generated by it. Thus, the word “liquid” and its related terms refer to cash. Liquidation is the process of turning all assets of a company, including non-liquid assets, into cash.

Purpose

The reason companies liquidate their assets is to produce cash. Therefore, it is impossible to liquidate liquid assets. Cash is already cash and other liquid assets like shares and bonds can easily be converted to cash by selling them. The process of liquidation involves converting fixed assets and inventory into cash by selling them.

Inventory

There are two types of inventory: raw materials and finished goods. An in-between state of goods, which is work in process, is difficult to liquidate because it no longer has the universal state of raw materials nor the saleable value of finished goods. It is better to complete work in process before trying to sell it.

Fixed assets

Fixed assets are all the things the company has to own in order to make and sell goods excluding the materials that directly go into those goods. Fixed assets include plant, office equipment and furniture. Property is also a fixed asset as are vehicles. Accountants judge the value of fixed assets by distributing their purchase cost across the number of years the company intends to use them. So, a piece of machinery may fetch more in a sale than the present value written in the books. Although the company only values the plant as the remaining portion of its useful life, these assets generally achieve a selling price even when they have been officially written off, because they still work. This is called the residual value. However, if the company needs to sell fast to liquidate its fixed assets, it will probably have to discount their prices to the point where it may not realise the full book value of those assets.

Forced liquidation

The managers and owners of a company may decide to liquidate the company’s assets even if it is a profitable business. A sole trader may wish to retire and have no one to pass the business on to, a company may change its strategy entirely and wish to sell everything off and start again in a new direction. However, usually, if a business liquidates all its assets, it means it has gone bankrupt. Companies only accumulate Fixed Assets and Inventory in order to operate. Therefore, the decision to sell everything off means the company can no longer operate and so is going out of business. Most liquidations are forced by the creditors of the company. If the operating profits are not enough to cover the company’s debts, its creditors will take court action to seize those assets and sell them or force the company to sell its assets within a short period to pay its debts.

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