One of strategies which a company might choose is retrenchment. In certain cases, the most appropriate retrenchment strategy is bankruptcy (David, 2008). The procedure of bankruptcy is complex, and its details can vary in different states. However, the United States Bankruptcy Code outlines key five types of bankruptcy, which are listed in Chapters 7, 9, 11, 12 and 13 of the Code (Ekvall, 2007), and regulate bankruptcy filings at the federal level. The procedure of bankruptcy involves two sides, the creditor and the debtor. The debtor might be a company or an individual who owes money to one or several creditors (can be organizations or companies). The details of bankruptcy filing depend on the type of debt (secured or unsecured) and on the type of bankruptcy (Elias & Laurence, 2010). The purpose of this paper is to analyze and compare all five types of bankruptcy.
Chapter 7 bankruptcy is the strictest form of bankruptcy (liquidation bankruptcy) which in fact means that the company will stop its existence. This variant of bankruptcy should only be chosen when there is no slightest possibility of success and when it is not possible to establish alternative agreements with creditors (David, 2008). According to this chapter, the company should pass through a procedure of liquidation, and the non-exempt assets of the organization will be sold at the price of their tangible value (Elias & Laurence, 2010). The debt should be repaid after selling the company’s assets, and if the debt was not covered by these funds, the remaining part of the debt is discharged. Chapter 7 is applicable to partnerships and corporations as well as to individuals. Neither of them can continue operations after filing bankruptcy (Ekvall, 2007), and this form of bankruptcy is the extreme measure for any business entity.
Chapter 9 bankruptcy procedures are related to municipal bankruptcy. In fact, this form of bankruptcy implies reorganization. In the case of such bankruptcy, municipality can receive state aid, and improve its financial condition in future. However, not all states allow municipalities to declare bankruptcy (Ekvall, 2007); states itself cannot file a bankruptcy, as only municipalities are eligible for this procedure (David, 2008). The permission of state government is required for declaring Chapter 9 bankruptcy (Elias & Laurence, 2010).
Chapter 11 variant of bankruptcy is often used because it allows the reorganization of the company and there is a possibility for returning into business for this company, after filing a petition for protection. This type of bankruptcy can be used both by companies and by individuals (although for some individuals Chapter 13 might be the optimal choice). According to this type of bankruptcy (reorganization bankruptcy), the company can continue operating and continues to own all assets, but needs to develop a plan of reorganization for paying off the creditors (David, 2008). After the Bankruptcy Abuse Prevention and Consumer Protection Act was issued in 2005, maximal period for working out a repayment plan is limited to 120 days (Elias & Laurence, 2010). After this period, creditors have the right to submit their own plans; this is done to avoid procrastinating abuse in this form of bankruptcy, and to protect the interests of the creditor side.
Bankruptcy described in Chapter 12 of the United States Bankruptcy Code relates to farming and fishing family businesses, and is based on the Family Farmer Bankruptcy Act issued in 1986; the chapter itself started functioning since 1987 (David, 2008). According to Chapter 12, special protection is provided for family farmers whose debts are less or equal a pre-established amount. The farmer can continue own business operations, and has control over business assets. The family farmer is obliged to collaborate with the creditors and to work out a repayment plan.
Chapter 13 bankruptcy scenario is similar to the reorganization approach adopted in Chapter 11. Only specific types of business are eligible for this bankruptcy procedure, which are individually owned small businesses with maximal limits imposed on secured and unsecured debt sums (Elias & Laurence, 2010). This type of bankruptcy is referred to as “debt adjustment” (David, 2008). Businesses which declared bankruptcy according to Chapter 13 can continue operating while they are reorganizing their business operations in order to maintain financial viability. Depending on the income of the business, it is possible to discharge a certain part of the debt (Ekvall, 2007). Small business owners can keep controlling their assets, and they need to create a plan of repayment for a 3-5 year period (Ekvall, 2007).
The choice of the type of bankruptcy should be done in accordance with the company’s specifics (or with the specifics of individual business), and in accordance with the chosen retrenchment strategy. Chapter 9 and Chapter 12 apply to municipalities and for farming/fishing family business correspondingly, and the procedures of these chapters are not commonly used for filing bankruptcy. Chapter 7, 11 and 13 are most commonly used regulations (Ekvall, 2007).
If the company is planning to stay in business, it should choose reorganization according to the Chapter 11 type. In case of individually owned business, it is possible to consider Chapter 13 scenario; however, the owner of the business should be aware that only about 35% of small businesses filing for Chapter 13 bankruptcy really manage to repay their debts (Elias & Laurence, 2010). Planned payments developed in accordance with Chapter 11 or Chapter 13 requirements are obligatory, and if the company or the individual is not able keep to these payments, the court can convert the bankruptcy into Chapter 7 case. Thus, business owners should be aware of the risks and challenges of operating under bankruptcy conditions, and consider these challenges while choosing a business strategy.
David, F.R. (2008). Strategic Management: Concepts and Cases. Pearson Education.
Ekvall, L.L. (2007). Bankruptcy for Businesses: Benefits, Pitfalls and Alternatives. Entrepreneur Press.
Elias, S. & Laurence, B.K. (2010). Bankruptcy for Small Business Owners: How to File for. Nolo.