What is the Cost of Bankruptcy?

The cost of bankruptcy refers to the cost of a company paying for a financial crisis, also known as the cost of financial constraints. It often occurs in companies with high debt ratios. The higher the debt ratio, the more difficult it is to achieve financial stability and the greater the possibility of a financial crisis. If the debt ratio is too high and the company goes bankrupt, huge legal proceedings and liquidation costs will need to be paid; even if the company is not yet bankrupt, too much debt will directly affect the use of funds, causing the company to suffer in terms of financing credibility, raw material supply and product sales Disturbance, and ultimately increase the weighted average cost of capital for over-indebted companies. ^[1]

Bankruptcy cost

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Bankruptcy cost

There are two main forms of corporate bankruptcy costs.

Early research on bankruptcy costs and

Design of Bankruptcy Procedure and Bankruptcy Cost

Recent research has focused on

As China is currently in a period of economic transformation and a large number of state-owned enterprises are facing bankruptcy or restructuring, corporate bankruptcy cost theory has a broad application prospect in China. There are three main areas:

Reduce bankruptcy costs

Judging from the actual situation, although China's enterprises, especially state-owned enterprises, have poor operating performance and are unable to repay their due debts, the proportion of bankruptcy is still low, for many reasons. The true owner of a state-owned enterprise is the state, and the main creditor is a state-owned bank. Then, as the shareholder and creditor of the state-owned enterprise, the identity of the government is the same, resulting in substantial bankruptcy costs. Therefore, after 1997, the government was more willing to encourage corporate debt restructuring to avoid bankruptcy. However, in fact, whether a company chooses liquidation or reorganization should be determined by the company and its stakeholders, and it also depends on the fair ruling of the law. In China, the State Economic and Trade Commission recommends debt-to-equity swap companies based on development prospects and other conditions. The basis is that the company's continuous value is expected to exceed the liquidation value. This policy measure is not a creditor's market behavior for economic benefits. Similarly, cases such as sT Monkey King and Zheng Baiwen's non-bankruptcy, mainly because the government intervenes for reasons of social stability, affects the court to make a fair decision on bankruptcy, which is actually an uneconomic behavior that continues to consume social resources .

Establishing legal procedures to protect the interests of creditors

An important feature of bankruptcy is the transfer of control. If creditors cannot effectively participate in bankruptcy decision-making, then control is known and unreal, let alone to protect the interests of creditors. sT Monkey King divested a large number of subsidiaries without the consent of creditors, causing a substantial shrinkage of corporate assets. This shows that the flaws in the design of the bankruptcy procedure have resulted in the inability of corporate creditors to obtain corresponding protection. At the same time, ineffective penalties have been imposed on operators and parties that damage the interests of creditors, and there is no punishment mechanism or reputational constraint mechanism for operators; Intervening non-market behaviors often occur. Chinese law protects creditors below the world average. So there is an urgent need to work out reasonable bankruptcy procedures.

Improve the company's exit mechanism

Before the restructuring, a large number of state-owned enterprises had excessive debts and poor operating performance. Because companies do not control their financial leverage in advance based on their different assets or operating nature, ignoring the negative effects of expected bankruptcy indirect costs is one of the important reasons for bankruptcy. However, the underlying reason for this is that companies do not have a perfect exit mechanism. Therefore, the government needs to vigorously promote asset disposal and the construction of a secondary debt market, reduce the loss and waste of assets, develop financial innovation tools such as the junk bond market, form corporate debt of different levels, and disclose corporate debt risks in real time and be priced by the market. Provide long-term capital for restructuring enterprises with continuing operating value, and also provide channels for corporate bankruptcy. This can also enable enterprises to improve their ability to deal with emergencies, regulate the rights and obligations of stakeholders in a special period of bankruptcy or fall into a financial crisis, and further improve the company's operating mechanism through corporate governance structure innovation. ^[2]