Trade in Bankruptcy - Coursework Example

Trade in Bankruptcy Letter of transmittal April 5, McKinnom McMurrey, Chief Executive Officer, XYZ Company, 400 BaywaterBlvd. Corpus Christi, Texas. Dear Mr. McMurrey: Here is the report you requested … I hereby present my project report analyzing the causes and effects of bankruptcy as well as measures that business owners should follow to avoid bankruptcy. This report also takes into account the various restrictions that the court places on the bankrupts and concludes with some recommendations for business owners and individuals on how to avoid bankruptcy. I hope you shall find my report satisfactory. Thank for the opportunity to research and offer to answer questions. Yours sincerely, Author. Table of contents Letter of transmittal 2 List of illustrations Bankruptcy- refers to a situation whereby business organizations or consumers make payments of all their debts under the shield of FBC (Federal Bankruptcy Court). Bankrupt-is an individual whose court declares as bankrupt. Official Receiver- An officer from the IS (Insolvency Service) of the United States. Trustee- an individual or board member who has control or powers administer properties in trust with the legal obligations to administer the properties solely for the aim specified.   Executive summary The present report will use various vivid sources to explain the causes and effects of bankruptcy as well as measures that business owners should follow to avoid bankruptcy. The Federal Court in U.S. enacted a bankruptcy law that aids in preventing the trade in bankruptcy as well as safeguarding the properties of creditors. The report also discusses the reasons for trade on bankruptcy prevention. This report also takes into account the various restrictions that the court places on the bankrupts. This report concludes with some recommendations for business owners and individuals on how to avoid bankruptcy.   Introduction Bankruptcy refers to a situation whereby business organizations or consumers make payments of all their debts under the shield of FBC (Federal Bankruptcy Court). In general, there are two forms of bankruptcy, which include reorganization and liquidation. Liquidation means that a consumer or business organizations sell (liquidates) his or its properties to the debts. However, one may keep property, which is under protection of the state’s law (exempt). On the other hand, there are various forms of reorganization bankruptcy. Reorganization means that a consumer or business organization keeps all its or his properties, but be paying monthly payments for a period of four to six years to repay the debts fully (Jackson, 2001). The present report purports to explain the major causes of bankruptcy and the ways that business organizations should incorporate to prevent bankruptcy. Bankruptcy cost of debt Costs of debts, according to Corporate Finance refer to the increased costs of trading with debts rather than equities resulting to increased chances of a business owner becoming bankrupt. Since a business owner incurs many losses during the bankruptcy period, this indicates that the costs incurred pose direct negative impacts towards progress and growth of a business (DePamphilis, 2009). Financially, after an organization enters the bankruptcy situation, all the investors who hold shares in the firm loses a part of their investment or even all their investments. Alternatively, investors request for higher rates of return when they are investing in firms, which are predicted to go bankrupt. This suggests that increased debts may result to business bankruptcy. Effects of tax on the capital cost In the context of taxes, it is essential to note that paying debt interests can sometimes considered as expenses and therefore decreases the overall taxes. However, an organization cannot deduct dividends as expenses; therefore, they have no impacts on the company’s taxes. This is essential for many business organizations and company’s management should note this when making decisions about the change of their capital structures (Goodman & Levitin, 2012). Effects of bankruptcy on capital cost The cost of bankruptcy also signifies effects on the cost of a company’s capital. When a certain company investment on debts, the company has the responsibility of to service the debts by ensuring that they pay the interests. The payment of these debt interests highly affects the revenues of the company as well as the company’s cash flow (DePamphilis, 2009). Every company has its own capital structure, which include equity and debt percentages, and the balance of benefits of taxes on equity and debts. As an organization keeps on increasing its debts above the set amount according to the company’s capital structure, its costs to repay the debt increases since the debt become more risky for the company. The risk of the organization becoming bankruptcy goes higher as the load of the debt accumulates. The increase of the debt’s payment cost, highly affects the economic status of business organizations (Goodman & Levitin, 2012). Causes of bankruptcy The causes of bankruptcy in business organization are in three major categories, which includes, financial, marketing, and management. If managers of a certain organization lack enough knowledge about any of the above areas, then such a company may fall into risk of failure or bankruptcy (Hale, 2004). In many companies, lack of adequate knowledge or understanding as well, lacking efforts may result in failure or bankruptcy. Some of the major causes of bankruptcy, which will be discussed in this report include under capitalization, poor planning, trade credit, and poor cash flow. Under capitalization A large number of business owner are not aware that they have an opportunity to apply for a loan since they do not understand the best institutions they can apply for loans to fund their business. A credit union, bank, investors, and U.S. SBA (Small Business Administration) can provide one with capital to start or fund a business (Jackson, 2001). Many people think that banks and other financial institutions can offer 100% capital or fund a company. Financial is the most difficult aspect to handle in business and under capitalization is among the major causes of any business’s failures or bankruptcy. This is because; lack of enough capital or funds may cause a business to start incurring losses even before it starts to make profits (Goodman & Levitin, 2012). It is more challenging to look for capital after declaring that a business is unable to meet its projections. Business ventures should note that overcapitalizing business cannot kill it, but undercapitalization can do. Poor planning Lack of planning strategies or implementation of poor planning strategies is a common reason why many business organizations end up having a short life span. In the context of business planning, Glocal asserts that, planning does necessarily mean your future goals and objects, but is focused on the future implications as well as the current actions and decisions. Most studies claim that lack of good planning techniques highly contributes the greatest percentage why most businesses are currently failing or facing bankruptcy (Jackson, 2001). Business owners should acknowledge that proper planning is the key to business success and thus they should not overlook it. Trade credit Most businesses make use of trade credits as a means of providing temporary finances. Trade credit means that a business delivers goods or offers services to other business and allow for delayed payments for such goods and services. Most of these businesses make use of trade credits as a means of fighting competition without knowing the risks of it. However, despite trade credit being an effective tool to fight competitions, it brings many negative impacts on cash flow of a business (Jackson, 2001). Since business’ cash flow is essential to the progress of the business, delayed or no payments can result in bankruptcy. Poor cash flow Lack of good cash flow in a business often indicates a bankruptcy. This causes most businesses to enter into a situation of being unable to cater for crucial expenses such as rent, wages, loan, and insurance payments. Poor cash flow can also inhibit the ability of a business to invest for future incomes or be unable to order for more supplies. Statistics indicate, business organizations that do not start making enough profit within the first seven months, chances of entering a bankruptcy situation are very high (Hale, 2004). This is because poor cash flow inhibits a company to be able to respond to external business threats. Restrictions/ implications that apply in a bankruptcy Bankruptcy order’s implications are only subject to the bankrupt individual and do not affect either the individual’s wife, husband, or partner. People always have a common misconception that, if one becomes a bankrupt, he or she will be unable to work or own any bank account, which is false. During the passing of an order, all properties of the bankrupt vest of Official Receiver with essential exceptions (Krom, 2011). The Official Receiver together with a Trustee must then realize the properties of the bankrupt for the advantages of the creditors. In most circumstances, bankruptcy only lasts for a period of one year after the date when the bankruptcy order was made. This entails that the below restrictions cease to have an effect after the end of this period. Major restrictions on a bankrupt One should understand that in case of any inheritances received before the announcement or during the bankruptcy period (one year) should be used as payments to the Official Receiver who is mainly the bankruptcy Trustee focused to make payment towards reduction of your creditors’ debts. This highly affects the progress of a bankrupt’s business if any (McFaul & Cheney, 2011). The Official Receiver must be able to realize all the properties (with important exceptions) during the time when the order was implemented. One also should complete a six-month expenditure and income statement to identify whether there is any surplus that can be used to pay the Official Receiver as part of satisfying your debts, which is known as an IPO (Income Payment Order). After the passing of a bankruptcy order, when is also free to go on with his or her sole trade activities. However, one should note that, all his business documents such as letterheads and invoices should contain a name that indicates you as a bankrupt. The purpose of this is to enable creditors to know that you are a credit risk (Krom, 2011). Although a bankrupt has a permission to use a trade name, one can only receive this permission from the Official Receiver. If a bankrupt had shares in a certain company during the making of the order, then those shares vest in the Trustee. Being a bankrupt means that you do not have any permission to promote, form, or manage any limited company. One should also not serve as a director in any company unless the court gives him such permission. If you are a director in any limited organization, after the court declares you as a bankrupt, then you should resign with immediate effect (Jackson, 2001). General principles of bankruptcy The constitution of U.S. contains the law of bankruptcy, which is applicable to everybody in the United States. According to the United States constitution, bankruptcy law only applies to the natural peoples. Once the court declares an individual as a bankrupt, a huge percentage of his or her property are vested to the Trustee/Official Receiver. The Official Receiver can take, for instance properties such as real estate or personal assets within or outside United States (with important exceptions). Usually, the constitution states that an individual can only remain as a bankrupt for a period of three years until annulment or discharge occurs (Krom, 2011). However, bankruptcy seems to be an effective way to solve debts for some individuals. When reporting about bankruptcy, it is also essential to cover the advantages and disadvantages of bankruptcy. Advantages of bankruptcy Bankruptcy serves as an effective tool for clearing people’s debts, enabling them to start afresh. Some of the properties of the bankrupt can be under cover by Act to protect them from being taken to clear the debts. Creditors demands end once the court declares one as a bankrupt. The last advantage is that all the bankrupt’s benefits and social pensions are under protection (Jackson, 2001). Disadvantages of bankruptcy One of the major disadvantages is that once the court declares an individual as bankrupt, he or she stands to lose all his or her valuable properties. There is also a certain amount, which a bankrupt must pay for the creditors’ debts in case the debts earn some income. If the bankrupt had bought some good on hire purchase, the company repossesses the goods unless there is maintenance of monthly installments (Ehrhardt & Brigham, 2009). Any valuable property of saving that the bankrupt receive during his bankruptcy period may also be lost. A bankrupt should purchase goods on credit without stating that he or she is a bankrupt; otherwise, this is a criminal offense. They also do not have the permission of applying for a bank cheque of more than $5,145 to make goods or services’ payments; otherwise, this is a criminal offense. Property secluded from bankruptcy There are several properties of a bankrupt, which the law protects from bankruptcy. This includes personal items and household properties. Others include superannuation documents and life insurance. The court also protects tools for trade, which are of maximum $3,550. The law also protects compensation and damage payments from bankruptcy as well as motor vehicles. The bankrupt cannot also lose goods, which are for lease or hire purchase unless they are under a bill of sale (Jackson, 2001). Bankrupt’s responsibilities All bankrupts play various responsibilities to the Official Receivers or Trustees during the period of bankruptcy. These responsibilities normally include, supplying their trustees with any relevant information such as address, change of name, income, and payment (Levitin, 2010). Bankrupts also have a responsibility to contribute out of their incomes when their trustees issue assessments. Bankrupts must hand over their passports and look for permissions from the Federal Court to enable them travel across borders (Ehrhardt & Brigham, 2009). They should always disclose that they bankrupt when applying huge credits. If the court declares the business as a bankrupt, then the owner must hand over the business books and necessary documents to the Trustees. A bankrupt should immediately cease from being a director of any company unless the court gives him or her permission to do so. Conclusion In conclusion, effective strategy in financial, marketing, and management is the key to business success. If managers of a certain organization lack enough knowledge about any of the above areas, then such a company may fall into risk of failure or bankruptcy. In many companies, lack of adequate knowledge or understanding as well, lacking efforts may result in failure or bankruptcy (Jackson, 2001). However, in order for business owners to avoid the risk of bankruptcy, they should avoid issues such as under capitalization, poor planning, trade credit, and poor cash flow. Even if most business owners argue that, bankruptcy serves as a tool of clearing business debts and enabling one to start fresh, there is a need for one avoiding being a bankrupt. This is because it is costly to handle the situation of bankruptcy after its occurrence (Sandage, 2006). This is because, for instance, when the court declares a certain business as a bankrupt, the chances of that business to progress again are rare. However, the owner of the business suffers huge losses ending up in closing a business. A better option for a business owner avoid from being a bankrupt is seeking for financial as well as credit advices from business experts. This is because one can acquire the necessary knowledge and to understand on how to run a business effectively. Recommendation There are various things, which business owners should carry out to prevent their businesses from bankruptcy. Firstly, a business owner must tally all his debts to enable him be aware of the much he owes the creditors and look for an appropriate strategy of paying the debts. Secondly, a business owner should be gathering all financial statements and all business documents that have any impacts to the business’s financial status. After that, one should categorize the debts into two groups, bad and well (Ehrhardt & Brigham, 2009). Concentrate much on how to pay the bad debts. This means that you should reduce the business expenses and mainly focusing on spending on necessities rather than non-necessities. Lastly, it is recommended that, business owners should seek financial skills and knowledge of business experts to enable them implement better financial plans. References DePamphilis, D. M. (2009). Mergers, Acquisitions, and Other Restructurings, 5th Edition. Elsevier, Academic Press. Ehrhardt, M. C., & Brigham, E. F. (2009). Corporate finance: A focused approach. Mason, Ohio: South-Western/Cengage Learning. Glocal Vantage, Inc, “Reasons for Failure”, p.4, Retrieved 7/16/2004 from Goodman, J. S., & Levitin, A. J. (2012). Bankruptcy Law and The Cost of Credit: The Impact of Cramdown on Mortgage Interest Rates. Hale, J. (2004), “Gambling on Small Business,” Danville Register Bee.com, http://www.glocalvantage.com/BusinessStartupFailureandSuccess/Failure1.html. http://www.registerbee.com/servlet/ February 2004. Jackson, T. H. (2001). The logic and limits of bankruptcy law. Washington, DC: Beard Books. Krom, C. L. (2011). Bankruptcy as a corporate strategy: Implications for turnover in the top management team and board of directors. ASU research database. Levitin, A. (2010). Bankruptcy markets: Making sense of claims trading,‖. Brooklyn Journal, 5. McFaul, D., & Cheney, K. (2011). Are a Debtor’s Trading Prices Reliable Evidence of Its Enterprise Value?. Am. Bankr. Instit. J., 30, 56-7. Sandage, S. A. (2006). Born Losers: A History of Failure in America. Cambridge, Mass.: Harvard University Press. Read More