Value. Bankruptcy. Investment Price - Essay Example

On the other hand, the US system is supposed to be more debtor-friendly, where the courts play a significant role in the restructuring of the distressed company (Bourguignon & Pleskovic, 2007). In the US, bankruptcy is managed under the Bankruptcy Code, formed by the Bankruptcy Reform Act of 1978. Under this Act, a company could be restructured and reorganized or else liquidated. A financially distressed company can get protection from the creditors under the Chapter 11 of the Bankruptcy Code.

The company can then attempt to rise above its financial hardships and also sort out the payments to its various creditors. Conversely, if the company files under Chapter 7 of the Bankruptcy Code, the assets of the company are liquidated and the proceeds are allocated to the creditors. The major trade-off in the bankruptcy act is between providing protection to a distressed company and ensuring bondholders with adequate security to extend credit. Providing protection to the financially distressed company from its creditors and helping them to start afresh is an important driver of private enterprises.

Many entrepreneurs would not take up the risk of forming a business if they had a possibility of facing unrestricted liability. However, the partial liability cancellations and bailouts of the bankrupt companies hurt the interest of the bondholders because they receive only a fraction of the value actually owed. Many a times, the liquidation of the company’s assets also does not help the creditors to acquire the total amount they owed to the company. This consequently makes the creditors more risk averse and the restructured company finds it difficult to locate investment post its bankruptcy.

Therefore, regardless of liquidation, reconciliation of liability claims or Chapter 11, the lenders do not get back what they originally owed to the company (Damodaran, 2005). Answer 2 A company is said to be bankrupt when it is not capable of fulfilling its contractual liabilities. The assets of such a company are generally liquidated and the earnings from the liquidation process are utilized to meet the overdue claims. The cost involved in the process of going bankrupt is obscure and hence difficult to quantify.

The legal expenditures involved are known as the direct cost of bankruptcy. These costs occur in the form of cash outflows at the moment of bankruptcy of the company. Therefore, the direct costs of bankruptcy consist of legal as well as administrative expenditures and also the interest payments for the payment of the overdue cash flows. However, the major part of the bankruptcy cost takes place prior to the company’s bankruptcy declaration. The direct costs of bankruptcy of large companies are considerably small considered to their indirect costs of bankruptcy.

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