Economies all over the world are facing challenging times with changing market dynamics, which oftentimes have pushed them to the limit on profits and turn-over. This has led to companies either seeking to file for bankruptcy or being pushed to liquidation.
Corporate bankruptcy is the process often sanctioned and guided by a court process in which an organization or business is declared that it is incompetent or unable to pay its debts. A company can either move to seek relief to stop debtors from attaching its property due to unpaid debts. Also, other companies can move to have a company compelled to pay its debts and in the process, a company is declared bankrupt.
In a bankruptcy case, a court must be convinced that the debts of the company are so overwhelming for it to pay and the best and feasible option is to declare the company insolvent.
The U.S. laws allow companies to seek bankruptcy orders and shield themselves from being auctioned. Both Chapter 7 and Chapter 11 provide situations under which a company can be reorganized or restructured to avoid loss and ultimate liquidation. These laws are typically slow in ordering liquidation but allow a company to negotiate with its creditors for a prolonged repayment of what it owes.
Smaller companies and sole proprietorships often find themselves with more options in filing for bankruptcy which includes the same chapters mentioned above but can also seek Chapter 13. This chapter is reserved for consumers and sole proprietorships that stipulate a repayment formula that helps the company get back to profitability.
Types of Bankruptcy
Based on the US bankruptcy laws, there are mainly three types of bankruptcy that a corporate entity can go through. These are guided by chapter 7, chapter 11 and chapter 13 of the Act. These include Business Bankruptcy, Business reorganization, and Personal Bankruptcy.
- Business Bankruptcy- This is an extreme kind of bankruptcy. In this type of bankruptcy, a company might file for total liquidation after there is proof that the company can’t manage to make repayments. As enshrined in chapter 7, the bankruptcy court appoints a caretaker manager who is responsible for managing the company’s assets and works on a formula to dissolve the company and distribute the proceeds to debtors. It is normally seen as the last step in folding a company.
- Business reorganization- This is the path taken by companies who have a glimmer of hope of turning around the bad financial times and make the company profitable yet again. This is guided by chapter 11 and a court appoints a trustee who runs the business normally, until a time it can make a profit again and manage to pay off its debtors. This is a complex way of keeping a company afloat and not all corporates who seek orders under this chapter get it. The repayment of loans can be extended up to 20 years meaning a longer period to rethink and reorganize how to approach business. This also affects creditors, and the court process allows them to vote on any plan before it is ratified by the court.
- Personal Bankruptcy- This is mainly targeted at individuals and small businesses that do not have a lot of assets mainly sole proprietorship. In this way, and under chapter 13, an individual is shielded from losing their property related to their businesses. This is a tricky step as the court has to determine the repayment mode and how much you can manage to repay your loan versus the amount you or your business earn.
Factors that lead to Corporate Bankruptcy
Bankruptcy is not always a result of bad management. There are various ways in which a company may fall into bankruptcy even if it has done everything well. These could include prevailing market conditions, financing, natural disasters and other causes beyond human ability. But still, there are cases of bad management, fraud and poor vision that lead a company to be on its knees:
- Prevailing market conditions – Sometimes a company finds itself under intense competition as well as increasing hard economic times. This affects the overall sales as well as the costs of running a business. This can lead to a company failing to pay its debts in time.
- Expensive financing options – In business management, a company might enter into a situation whereby it needs financing desperately. This might result in the company choosing expensive or sometimes unsuitable repayment schedules.
- Poor decision making – CEOs and executives making decisions that a company will live to regret.
- Lack of institutional memory- If a founder of an organization retires, sells the company or dies, the company might struggle to live in the dreams or visions of the founder.
- Natural catastrophes – When a hurricane or an earthquake hits an area, there are companies that might never recover. This also refers to areas of strife, war or general chaos.
- Tax and fraud-related issues – Some organizations are forced to shut down operations when it is unable to pay its taxes or there have been cases of company executives being involved in fraud.
Managing Business during Bankruptcy
Running a corporate entity during the bankruptcy period can be a challenge. All eyes are on the company to avoid making other poor decisions. The court-appointed caretaker manager often runs the company with the main aim of remaining afloat.
This can also be a tricky time to get new credit, new staff or venture into new areas of operation. A company that survives this process will have a mark in its history. The good thing with this kind of process is that it does not affect the credit history of an individual unless the property was attached to the owner.