Definition
A liquidating dividend is a type of payment made by a corporation to its shareholders during its partial or full liquidation. It is money returned to investors from the capital originally contributed, instead of from earnings or profit. It usually occurs when a company is going out of business or seeking to restructure.
Key Takeaways
- Liquidating Dividend is a type of payment made by a corporation to its shareholders during its partial or full liquidation. It signifies the end of a business venture and the distribution of half or all assets to shareholders.
- These dividends are usually paid when a company has sold off its operational assets and has plans to be dissolved or go out of business. They take the place of regular dividends and may be classified as a return of capital, rather than profit.
- The amount received from Liquidating Dividend is generally considered a return on investment (ROI) and will probably be taxable upon receipt by shareholders, even though they are often seen as a return of capital and not income distribution.
Importance
A Liquidating Dividend is a vital term in finance as it relates to the distribution of assets to shareholders when a corporation is partially or fully liquidated.
This scenario typically arises when a company decides to shut down its operations and no longer believes it can create a satisfactory return on investment for its shareholders.
In such a case, the company will liquidate its assets and distribute the proceeds among its shareholders in the form of Liquidating Dividends.
Therefore, the importance of a Liquidating Dividend lies in its ability to provide a return to investors at the termination of a company’s business activities, essentially serving as a final benefit or return on investment for shareholders.
Explanation
A liquidating dividend serves as a tool for distributing a portion or all of a company’s assets back to its shareholders. This typically occurs when a corporation is going through a dissolution process and is on the verge of closure, or when a company wants to drastically change its structure or operations.
It can be seen as a part of a fulfilment strategy towards a company’s obligation to its investors. The use of liquidating dividends revolves around the return of contributed capital rather than the distribution of earnings.
As such, it is often associated with the distribution of an entity’s accumulated surplus or capital investments. The liquidating dividend may offer certain tax advantages to investors by classifying it as a return of capital, instead of income.
As a return of capital, it’s typically not subject to ordinary income tax. Thus, such payouts can be advantageous to shareholders as they might receive a significant portion of their investment back in a tax-efficient manner.
Examples of Liquidating Dividend
The Case of Pfizer Inc.: In 2020, Pfizer Inc., a pharmaceutical company, issued a liquidating dividend when it spun off its generic drug business, Upjohn, to merge with Mylan, which created a new company called Viatris Inc. As part of this process, Pfizer shareholders received liquidating dividends in the form of shares of the new company.
ENI S.p.A.’s Liquidation: In 2016, ENI S.p.A., an Italian multinational Oil and Gas company announced a liquidating dividend to its shareholders. This was a result of their intention to sell a substantial portion of its assets. The company then chose not to reinvest the proceeds from the sale but returned them to the stakeholders. This distribution was beyond the normal dividend payout and therefore considered a liquidating dividend.
The Bankruptcy of Enron: One of the more prominent examples of liquidating dividends occurred during the bankruptcy of Enron in
Once a dominant energy corporation, Enron fell into massive debt due to unethical accounting practices. The company was forced into liquidation, and part of its remaining assets were distributed to shareholders as liquidating dividends. However, due to the size of the company’s debt, shareholders received only a tiny fraction of their initial investments.
Liquidating Dividend: FAQ section
1. What is a Liquidating Dividend?
A liquidating dividend, also known as liquidating cash dividend, is a type of payment made by a corporation to its shareholders during its partial or full liquidation. It represents a return on capital rather than a return on earnings.
2. When is a Liquidating Dividend Issued?
A liquidating dividend is typically issued during the process of shutting down a business and preparing for dissolution. This usually happens when the company has determined that it cannot feasibly continue its operation.
3. How is a Liquidating Dividend Different from Regular Dividends?
Regular dividends are distributed from a company’s earnings and profits, while a liquidating dividend is a return of the capital originally invested by the shareholders. Therefore, liquidating dividends are considered a recovery of investment rather than profit.
4. How is a Liquidating Dividend Taxed?
The taxation of a liquidating dividend varies. It is typically considered a return of capital, and thus might be subjected to capital gains tax rather than income tax. However, it’s always advisable to consult with a professional tax advisor regarding the specific taxation treatment.
5. What Happens to the Company After a Liquidating Dividend?
After a liquidating dividend has been paid, the company is typically dissolved and ceases to exist. However, in some instances, part of the company may continue to operate or may be sold.
Related Entrepreneurship Terms
- Corporate Liquidation
- Dividend Distribution
- Shareholder’s Equity
- Dissolution of Company
- Bankruptcy Proceedings
Sources for More Information
- Investopedia: A comprehensive resource for investing and personal finance education. This site includes definitions, tutorials, articles, and more about a wide range of finance topics.
- Corporate Finance Institute (CFI): A leading provider of online financial analyst certification and training programs and resources.
- Wall Street Survivor: A web-based practice investing platform that also includes numerous courses and articles on various aspects of finance.
- Financial Management Pro: An online resource providing explanations of financial management concepts, techniques, and practices.
