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The Pros and Cons of Business Bankruptcy

By Spodek Law Group | February 20, 2024

The Pros and Cons of Business Bankruptcy

Filing for bankruptcy can be a difficult decision for any business owner. On one hand, it may help provide relief from overwhelming debt and give the business a chance to reorganize and recover. On the other hand, it can also have negative consequences that impact the business’s finances and reputation for years to come. This article examines some of the key pros and cons of business bankruptcy to consider.

Pros of Filing for Business Bankruptcy

Stops Foreclosure, Lawsuits, and Wage Garnishments

One of the main reasons businesses file for bankruptcy is for the automatic stay that goes into effect. The automatic stay stops any collection activities against the business, including foreclosure, lawsuits, and wage garnishments. This gives the business some breathing room to figure out the next steps without creditors trying to collect on debts.

Ability to Reorganize and Develop Recovery Plan

Filing for Chapter 11 bankruptcy allows the business to continue operating while developing a court-approved reorganization plan. This plan allows the business to restructure its debt and emerge in stronger financial shape. The business can reduce expenses, get out of expensive contracts, and close unprofitable locations.

Discharge Some Debts

If the reorganization plan is approved and completed, the business may be able to eliminate some types of debt, such as unsecured debts. This can help provide a fresh start for the business to rebuild. However, some debts like taxes and secured debts may still need to be repaid.

Cons of Filing for Business Bankruptcy

The legal fees involved in filing for bankruptcy can be substantial. Attorney fees average around $15,000 for a Chapter 11, with additional court and administrative fees on top. This is a significant upfront expense when cash flow is already tight.

Time Consuming Process

Working through the bankruptcy process requires a major time commitment from the business owner and management team. Time that may be better spent operating the business must instead go towards working with attorneys on filings and attending court hearings. The reorganization plan alone can take 3-12 months to develop.

Risk of Liquidation

There is always a risk that the court converts the bankruptcy case to a Chapter 7 liquidation. This typically happens if the business fails to file required documents on time or fails to make progress towards a confirmable reorganization plan. Liquidation means the business is forced to close and sell all assets.

Damage to Business Relationships

Current customers and vendors may lose confidence in the business after a bankruptcy filing. There is a stigma attached to bankruptcy that makes some partners hesitant to work with the business going forward. Rebuilding trust can be an uphill battle.

Negative Impact on Credit

Like personal bankruptcy, business bankruptcy also negatively impacts the company’s credit rating. The business is likely to have higher interest rates on any financing approved post-bankruptcy. This makes recovering from bankruptcy more challenging.

Key Factors to Consider with Business Bankruptcy

Deciding if bankruptcy is the right choice depends on several factors unique to each business:

  • Ability to reorganize successfully: Does the business model still work? Is there a sound turnaround plan?
  • Value of assets: Are there valuable business assets not subject to liens that could be lost in liquidation?
  • Personal liability for debts: Will the owners lose personal assets used as collateral for business loans?
  • Cost of bankruptcy: Does the business have enough cash flow to pay administrative and legal fees?

While bankruptcy may help struggling businesses, it does come at a high cost. Business owners should carefully weigh all their options, with input from legal and financial advisors, before choosing to file bankruptcy. In some cases, alternatives like debt consolidation or out-of-court workouts may better serve the long-term interests of the business.

Additional Resources on Business Bankruptcy

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Filing for bankruptcy represents a pivotal moment for any business. While it may provide much-needed relief, business owners should carefully examine both the pros and cons before making this critical decision about their company’s future. With the guidance of legal and financial experts, businesses can emerge from bankruptcy leaner, more efficient, and better positioned to succeed in the long run.

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