10 Common Causes of Corporate Distress Outlined in July ABI Journal Article
Alexandria, Va. — An article in the July ABI Journal features two experts providing their insight on the 10 key internal reasons as to why a company's financial condition deteriorates, often into bankruptcy. Drawing upon their extensive bankruptcy experience, Dr. Israel Shaked and Brad Orelowitz of The Michel-Shaked Group (Boston) found that the “10 Common Causes of Distress” include:
- Acquisitions: “Under pressure associated with declining performance, boards of directors often tend to rush through the due diligence process, missing the strategic, big picture of the merits of the acquisition.”
- Dividends and Stock Repurchases: “Several recent large retail bankruptcies resulted from their owners, private-equity funds, instituting dividend recapitalizations. Specifically, they incurred debt to fund these dividend payments while the business’s operations did not benefit from the capital raised by the increased leverage.”
- Non-Cash-Based Performance Measures: “Many analysts focused on the company's growth in sales, market share and assets instead of identifying the increasing cash shortfalls incurred by its 'successful' growing business.”
- Lack of Adaptation: “A change can be related to technology, consumer behavior, marketing channels or any other forms. Unfortunately, this lack of adaptation often leads to corporate distress.”
- A Cyclical Primary Value Driver: “Cyclicality of the product itself (such as in the housing industry or cyclicality of the input of production (such as the petrochemicals industry) necessitates an equity cushion to weather the worst-case scenario of decline.”
- Blinded by Success: “Success is the enemy of creativity, innovation and careful planning.”
- Flawed Planning: “Some companies are even not aware of the fact that they are out of resources until shortly before their bankruptcy filing.”
- Myopic Refinancing: “[Regular refinancing] models often do not assume the worst-case scenario, when the company's financial conditions worsen and refinancing is no longer readily available.”
- Flawed Business Model: “Certain business models simply do not make sense.”
- Deficient Internal Controls: “Employees know the 'weak links' in the company's internal controls more than anyone else and are often tempted to exploit them.”
While Shaked and Orelowitz caution that their list is not exhaustive and that companies might experience a combination of the listed causes, the aforementioned examples are the most common causes that they have seen in their bankruptcy practice. “Every new bankruptcy brings to light additional causes.”
To obtain a copy of “10 Common Causes of Distress” from the July edition of the ABI Journal, please click here.
ABI is the largest multi-disciplinary, nonpartisan organization dedicated to research and education on matters related to insolvency. ABI was founded in 1982 to provide Congress and the public with unbiased analysis of bankruptcy issues. The ABI membership includes nearly 12,000 attorneys, accountants, bankers, judges, professors, lenders, turnaround specialists and other bankruptcy professionals, providing a forum for the exchange of ideas and information. For additional information on ABI, visit www.abiworld.org. For additional conference information, visit http://www.abi.org/education-events.