Why Do Bankrupt Companies Stay Open? - Company Forensics | Sidebean

0:00When you need to build up your team to handle the growing chaos at work, use Indeed Sponsored Jobs. It gives your job post the boost it needs to be seen and helps reach people with the right skills, certifications, and more. Spend less time searching and more time actually interviewing candidates who check all your boxes. Listeners of this show will get a $75 sponsor job credit at Indeed.com slash podcast. That's Indeed.com slash podcast, terms and conditions apply. If you need a hiring hero, this is a job for Indeed Sponsored Jobs. Have you ever lost a game of monopoly? Probably. So you know that in this iconic capitalist game, you lose when you don't have enough money to pay. When your cash is running low and the role of the dice lands you on the most expensive properties, you know you're on your way out of the game. You can literally go bankrupt and sell off your little houses, hotels, mortgages to get some cash back and pay your debt. And if that's not enough, you're out.

1:03It's simple enough for a game, but it's pretty much the same in real life capitalism. But of course, it's far, far from being that simple in the real world. This is June, and preppy clothing company, file a post bank. Let's see. JC Penny filing for chapter 11 bankruptcy. Out of monopoly and backed into the real world, when you see the news, especially an unforgettable 2020, you will come across the term bankruptcy quite often. Bankruptcy. Bankruptcy. Bankruptcy. Another iconic company is going out of business. COVID-19 has really accelerated trends. And in this case, made the week weaker. Just in the retail sector last year, Century 21, Brooks Brothers, JC Penny, GNC, J-Crew, Gettar, Sennrin, a bunch of others, all filed for bankruptcy and filled the news headlines. But somehow, if you go to your local mall today, you may find bankrupt stores up and running, things like Aldo, still there selling your same cool looking shoes that don't last very

2:04long, even though they filed for bankruptcy. So what gives? Is it a marketing scheme? No, definitely not. Is it a capitalism instrument to keep the economy going? Something more like that. Many people may believe that when a company goes bankrupt, that's it. It's out of business. And in most cases, that's how it goes. But it turns out that it could be more like a delicate organ transplant than just the death sentence. You know, it can save a company's life, but sometimes the patient just dies. Let's understand a bit of the situation, which a company might find itself in to decide to go the bankruptcy path. We'll need to get a grip on a couple of terms first. So let's imagine this company called, I don't know, SlightBeat. It's this awesome toolkit for stuggers. So this company owns a website, slimy.com, and that website has a piece of software or IP. And some cash in the bank, it has a bunch of MacBooks.

3:06They printed a bunch of t-shirts to sell on YouTube and nobody is buying them. And these are all assets. However, SlightBeat may have a withstanding business loan. Say it's in the middle of the month now. So it actually owes wages that haven't been paid yet. Maybe they threw a crazy post-COVID party and haven't paid for it yet. These are all liabilities. So assets are cash, investments, inventory, office equipment, machinery, real estate, company own vehicles, intellectual property, which in this case applies to our trademark and our code. On the other side, liabilities represent bank or mortgage debt, money owed to suppliers. That's accounts payable for that party that we threw, wages owed or even taxes owed. The combination of the assets and the liabilities make up for a balance sheet. For companies that are publicly traded in the stock market, these balance sheets are public. As you could imagine, if the company liabilities exceed the value of its assets and profits overall,

4:09then the company is in trouble. Now since SlightBeat is not going bankrupt anytime soon, we're going to need a new example. We're going to use American Airlines who had a rough 2020 just like many, but it has had a few bumps and issues in its history, especially when it filed for bankruptcy in 2011. At the time, American Airlines found themselves with $24 plus billion in assets and $29 plus billion in liabilities. That's red. That's like $5 billion. Red. Liabilities might be loans debt, some stuff that they haven't paid. Anybody who was owed money by American Airlines is considered a credit term. That means that somebody who gave them credit, who loaned them money or provided a service and hasn't been paid yet. In this case, American Airlines is the debtor. Since they found themselves in quite a tough spot, they decided to file for a chapter 11 bankruptcy. American Airlines, once the nation's largest carrier, filed for bankruptcy. The company filed for chapter 11 protection against its creditors.

5:10No company ever wants to face a restructuring like this. You know, we spent 10 years trying to avoid this. Chapter 11 is a particular type of bankruptcy protection, and this is contemplated in the US bankruptcy code. Now, Chapter 7 is probably the most common type of bankruptcy you'll hear about, and we'll get to that in a moment. Filing for Chapter 11 bankruptcy allows the company to restructure itself, to try and get out of the hole that they're in. It gives them about four to 18 months time to do that. Their operating costs will be pushed down, so when they emerge, they'll be making money again. If you're curious for a small business, the process might cost up to $50,000, which I find pretty crazy considering you are going bankrupt, so where are you going to get $50,000? Anyway, on top of the cost of filing the Chapter 11, the restructuring process is anything but simple. Ultimately, it involves rethinking the company's finances from the ground up, while continuing to provide jobs for its employees, pay its creditors, and produce every turn for stockholders.

6:12Sounds like a lot for a business running out of money. But the company is not saying it's just saying, well, I might die soon, so please people I owe money to have mercy. And this mercy part is very real, and it's ultimately delivered by legal and justices of thorns. And documents are presented. When you need to build up your team to handle the growing chaos at work, use Indeed Sponsored Jobs. It gives your job post the boost it needs to be seen, and helps reach people with the right skills, certifications, and more. Spend less time searching, and more time actually interviewing candidates who check all your boxes. Listeners of this show will get a $75 Sponsored Job Credit at Indeed.com slash podcast. That's Indeed.com slash podcast, terms and conditions apply. If you need a hiring hero, this is a job for Indeed Sponsored Jobs. All collection, activity, and legal proceedings that relate to dead are immediately stopped in order for a court to step in and manage the restructuring process. Now let's say American Airlines has credit on an airplane, and they haven't paid their

7:14dues. At a point, the creditor could take control of that asset, so goodbye plane. However, under the bankruptcy protection, and while it lasts, all creditors are halted from collecting debts. Now this allows the company to continue operating, and so they did. Fides and reservations were honored because the company continued to operate. It just didn't have enough money to pay all of its debt. Yet. But this is a pretty huge company. It's a top US airline. It's a business that evidently could generate revenue in the future. So this bankruptcy protection gives them time and the protection of the law to try and get out of this mess. Now, if you think about it, a company so large with such expensive assets, and they're assets like airplanes in this case, can be more valuable while operating and putting those assets to use than just selling them off in a liquidation. We'll talk about liquidations in a sec. Now, in this American Airlines story, one of the biggest liabilities was contracts with unions. Filing for bankruptcy legally encourages everyone at the negotiating table to renegotiate.

8:16Why? Because if the company does go belly up and liquidates, some of these creditors could eventually walk out completely empty handed. And we're going to get to that in a second. So a creditor might, for example, renegotiate the terms of their credit to ensure the debtor pays up. They might exchange part of their debt for equity. And while this is not the best outcome, the other option, which is not getting anything, can be very nasty and everybody wants to avoid it. Now, one of the biggest concerns back then for American Airlines was the pension fund for their employees. Now, in the US, pension funds are saved and paid by the company itself, not by the government. That's late stage capitalism. So the problem here was that if the company went bust, or if it just didn't have enough money to pay their liabilities, their pension fund being one liability as well, people could lose not only their jobs, but access to those benefits. Apparently, the pension plans offered by American Airlines, which covered almost 130,000 workers

9:17at that moment, represented around $18.5 billion in benefits. But the company only had $8.3 billion in assets reserved to pay for that. It's going to be a very difficult process for everybody, the pilots and all the employees. It's personally and professionally devastated. This bankruptcy mode also allows them to negotiate and sell some of their assets. For example, they could sell the rights to an airline route. Oftentimes, other companies can come in as well and be part of this rescue operation. But literally, they can buy them out through bankruptcy. That is, to purchase the entire operation at a discount with the intention of injecting the missing capital and reorganizing the company and getting it back on track. Now, mind you, this process usually fails. Apparently, only 10-15% of chapter 11 bankruptcy filings end up with a company pushing through and coming out successful in the other end. This concept of chapter 11 bankruptcy has been called an American export other countries have adapted it. In essence, it makes sense why break something in parts liquidation

10:20when as a whole, it could still generate revenue. However, for the 80-85% of failed chapter 11, the next step is a chapter 7. Another chapter in the U.S. Bankruptcy Code, which by the way, contemplates bankruptcy processes for individuals, cities and even international entities. So, yeah, everyone can go bankrupt in the U.S. In any case, some of the other chapters are pretty random. If you're curious, chapter 9 is for cities. The city of Detroit wants to have to file for that. Chapter 15 is for multinationals and quite randomly. Chapter 12 is for farmers and fishermen. Really, but chapter 7 is the I Am Dead type of bankruptcy. People can also file for this one if you may remember some millionaires going bankrupt. Mike Tyson, being one of the most iconic examples, or even Larry King, way back in the late 70s. You've worked enough. I'm here to be a millionaire. Chapter 7 means the debtor that is a company or an individual will liquidate all of its assets.

11:25And of course, it sucks. Back to our own examples. If you had to go chapter 7, the first step would be filing with the court, which apparently costs between $3,000 and $5,000, apparently including all your fees. At that point, the company needs to stop operations and you'll be assigned with a trustee by the court. This person will look through all of the company assets and try to sell them for cash. Simple and harsh as that. In our first example, using SlideB, that'll probably be our computers, our office stuff, our furniture, our code, our brands, or a YouTube channel. Those are all company assets. Now, at this point, it's clear that if the company has filed for bankruptcy, it means it doesn't have money to pay all of its liability. It's not going to be enough. So there are rules that come to play as to who gets paid first. The first line of cash is used to pay the trustee himself, who makes a percentage of the money it manages to raise on the liquidation. So the company is essentially paying for the bankruptcy process, so that comes first.

12:29Next in line are creditors, who had secured assets or creditors who gave loans based on physical pieces of property. These are debts like the mortgage on the company buildings or releases on cars. These creditors get their money back first, usually by taking back their property. If this isn't enough to pay off the debt, the secured creditors get first dibs on the cash. Next in line, you have employees who have pending wages up to six months before the bankruptcy filing. When you need to build up your team to handle the growing chaos at work, use indeed sponsor jobs. It gives your job post the boost it needs to be seen, and helps reach people with the right skills, certifications, and more. Spend less time searching and more time actually interviewing candidates who check all your boxes. Listeners of this show will get a $75 sponsor job credit at Indeed.com slash podcast. That's Indeed.com slash podcast, terms and conditions apply. Need a hiring hero? This is a job for Indeed sponsor jobs.

13:30Now, depending on the state, there's a cap on how much they can receive. It's usually in the 12 to $13,000 range. Now, here's a catch. If there aren't enough assets, employees could walk home empty handed or with only a part of their compensation, which completely sucks. In the category of likely won't get paid at all, you have unsecured debts. Those are the debts that aren't backed by anything, like credit cards and bonds. These usually usually have high interests because of this very reason. Chances of getting paid here are pretty slim. And now, in the very last category, you have shareholders. And you know you are not getting a lot of money here. When a company declares bankruptcy, its stock becomes essentially worthless. This, by the way, is one of the reasons why stocks are a riskier investment than bonds. And they're literally one level down this ladder. Shareholders only get money after everybody else has been paid, which usually means zid.

14:30Now, a bit of the magic in all of this is that the buck generally stops here. The shareholders themselves don't have to pitch in any of their money to pay for this stuff, which would also suck for them and probably just for the economy. That's the thing. Shareholders are not liable for any of the debts and their credit score is not effective. That's one of the reasons startups aren't Delaware's Seacorp's and not other corporate struggles. Delaware and New York bankruptcy courts continue to dominate the bankruptcy business. I gather there are developments on Capitol Hill indicating that this reality is not going to change soon. So yeah, you don't ever want to declare bankruptcy and now you know it does come at a high cost. However, it doesn't always seem to be a death sentence for businesses, at least probably for the larger ones. The ones who can really remain lucrative, maybe with better management. And ultimately, it's good that bankruptcy protection is there. It should keep valuable companies from destroying economic value, even in monopoly before losing the game. You can sell off your assets and maybe keep rolling the dice.

15:34So financial instruments like bankruptcy can even be seen as a way to encourage risk-taking and ultimately sustain an ever-growing, ever-changing capitalist economy where not everybody can win. Thanks a lot for watching guys. This is one of our new company friends, excavators with the new format. Hope you've been enjoying them. This is the third one we've released after the dot-com bubble and the PayPal Mafia. Please hit that subscribe button if you want to stay tuned to our content. We're releasing one new video every week. It may come as a surprise for you that YouTube is not our mainline business. We are a company that helps other studies, race, capital and succeed. So if you want to check out what we do, go to slibing.com and we'll see you next week.