Liquidation preference is the order of the payout if the company is about to be liquidated, or acquired by another company.
Liquidation preference is the order of the payout if the company is about to be liquidated, or acquired by another company.To be more specific, liquidation preferences are used mostly for venture capital (VC) contracts to state which investors would get paid first and how much would they be paid when the company is about to liquidated or sold.
For determining who gets how much, the liquidator of the company needs to analyze the secured and unsecured loan agreements of the company, together with the share holdings (both common stock and preferred stock)of the company. While doing this, the liquidator would rank each and every shareholder and creditor and then distribute all the funds accordingly.
VCs normally ensure return on their investment when a company is liquidated by having a higher preference level over common shareholders. This reduces the risk of their investment in case the company is sold for a much lower value than expected.
VCs also consider the sale of a company as liquidation of the company. And in all cases, they are always taken as the first preference to get their money back.
If you are still unclear as to what liquidation preferences are, Eqvista can help you understand the term better. Eqvista also offers a FREE cap table application, which allows you to track the liquidation preferences of your shareholdings. Check out the application & contact us today!