Priority order in liquidationy / Liquidation priority

The liquidation priority right decides whether, when a company is sold or liquidated, a in what order and proportion different actors should be paid from the available money .

A liquidation priority is a clause in contracts that determines the order of payments in the event that the company is sold or into bankruptcy gets and is thus liquidated. According to the most commonly applied customary law, the first capital investors are paid, ahead of the founders, or the eventual creditors too. The venture capital investment contracts such a clause is almost mandatory.

The definition of the liquidation priority right is mainly a startup a popular element for companies. In the majority of these companies, the goal of the capital investor is the subsequent sale (exit), but lots of start-up startup don't get off the ground, so it often happens that with settlement obsession liquidation their operation ends. 

From the point of view of the liquidation right, this almost does not matter in the end. In the case of a sale, in the best case, the company is sold at a profit, so everyone gets their money, but the venture investors are the first to benefit from the profit, so it is not shared proportionally among the owners (shareholders) between.

Investors in general return expectation are also indicated in the contract, during the liquidation procedure they are accordingly entitled to multiples of the value of their investment in case of sale. Thus, it may happen that the startup is sold at a seemingly high price, but the normal shareholders (for example, the founders) receive zero from the sale, because the sale price is lower than the expected return specified by the investor in the contract.

Typically, three types of liquidation priority calculations are used for startup investments. The first is the "non-participating" method. In this situation, the original investor will be the first to get his full investment back, any unpaid with dividends together, and subject to agreement a return it can even be multiple. 

The other two approaches are the "participating" method, where the investor receives his share together with the shareholders, but at the same time he also benefits proportionately from the sale in addition to the fixed expected return on his investment. It has both an unlimited and a limited version. With the limit version, the investor is only paid up to a maximum amount, even if the company is sold at a record price.