An easier way out prompts more entrepreneurs to get in.
An excerpt from an interesting article titled How Do Bankruptcy Laws Affect Entrepreneurship Development around the World? (Subscription or fee required). By-Hyun Lee, Yasuhiro Yamakawa, Mike W. Peng and Jay B. Barney. Publisher: Journal of Business Venturing, vol. 26, no. 5
“Overall, a more efficient bankruptcy procedure may encourage more entry of new firms,” the authors write. “InSilicon Valley, this is known as the motto of ‘fail fast, fail cheap, and move on.’ ”
Five components of bankruptcy regulations were analyzed:
1- The time it takes to go through a bankruptcy procedure, both for liquidation, which results in the closing of a business, and for reorganization, under which a distressed company is shielded for a time from its creditors as it tries to come up with a new plan to continue operating.
2- Cost of bankruptcy procedures that differs greatly around the world and varies from 7 percent of a firm’s assets in USA to 36 percent in Thailand. These high costs could discourage firms from filing for bankruptcy. And when the costs are high, some entrepreneurs may not want to even start a business.
3- Debt relief. Countries’ laws differ in that they can either relieve bankrupt entrepreneurs of their outstanding debt or permit creditors to pursue them for years. “For executives of firms in distress who know that the consequences of bankruptcy would hurt them personally, filing a bankruptcy is likely to be the last thing they have in mind,” the authors write.
4- Whether a country’s bankruptcy laws included an automatic “stay of assets” during reorganization — meaning that creditors must stop debt collection efforts and instead take their claims to court while the firm continues to operate.
5- The role of managers at bankrupt firms. For example, Chapter 11 in the United States allows incumbent managers to keep control and propose reorganization plans while in other countries, however, that role is handed over to secured creditors. The restrictive approach has been criticized for leading to premature liquidations — and for inhibiting the launch of startups in the first place. On the other hand, allowing failed managers to stay on may just give them another chance to decrease the firm’s value.
The less risk involved in filing for bankruptcy, the more new firms are founded. Because bankruptcy laws vary widely around the world, especially as they relate to the cost, timing, and level of debt relief, entrepreneurs should closely study the rules in any potential new market.
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- Welcome to the Bankruptcy Law Center (bankruptcylawadvice.wordpress.com)
- Where does Bankruptcy come from? (bankruptcycrossroads.com)
- Q3 2011 insolvency figures – Is bankruptcy still an easy option? (cleardebt.co.uk)