Bankruptcy has serious consequences for entrepreneurs and their employees. It is a question of learning lessons and bouncing back with new ideas.
When a company can no longer pay its debts, its board of directors is required to go to court to initiate bankruptcy proceedings. These proceedings can also be initiated by a creditor through legal action. In both cases, bankruptcy has significant consequences for entrepreneurs, their employees and their creditors, whether these are backers, suppliers or even customers.
Financial consequences for entrepreneurs
Once bankruptcy proceedings are initiated, the company’s management loses the right to trade or sell all available assets; that is, all of the company’s assets such as bank accounts, real estate and manufacturing machinery. These assets are called the “bankruptcy assets” in legal terms. Assets accruing to the bankrupt party up until the bankruptcy proceedings come to a close are also included in the bankruptcy assets. It is the responsibility of the bankruptcy office in charge of the proceedings to estimate the value of the bankruptcy assets and handle their liquidation. The funds gathered in this way are used to pay creditors.
Differences depending on legal structure
Is the entrepreneur personally accountable for the company's debt? The answer varies depending on the company's legal structure. In the case of a legal entity, such as a corporation (SA) or a limited liability company (SARL), debts are associated exclusively with the company. By definition, they no longer exist if the company no longer exists. So the remaining debts are eliminated at the end of the bankruptcy proceedings, whereupon only the liability of the board of directors or management can still be challenged in legal proceedings.
Conversely, in the case of individuals, such as with sole proprietorships, entrepreneurs themselves must assume the debts during and even after closure of the bankruptcy. This is a factor often neglected by those setting up companies. In the context of bankruptcy proceedings, creditors receive a document called a loss certificate (Art. 265 LP [Federal Law on Debt Enforcement and Bankruptcy]), which sets out the unpaid amount and entitles them to claim their debt if the entrepreneur’s financial situation were to improve. The entrepreneur can only be prosecuted, however, if he or she recovers financially. He or she still has the option of setting up a new company.
For sole proprietorships, the entrepreneur’s private assets become seizable during a bankruptcy. These include savings as well as real estate and securities. The spouse's assets along with funds saved for the pension, pillar 3A and life insurance taken out with spouses and children as beneficiaries are excluded from the bankruptcy.
For general partnerships, partners divide up the company’s commitments on a joint and several basis on all of their assets. From the moment the company is dissolved or forms the subject of proceedings which are unsuccessful, a partner can be prosecuted personally (Art. 568 CO [Code of Obligations]).
Regardless of the company’s legal structure, any legal infringement committed by a member of management or director during the bankruptcy proceedings comes under criminal law and personally implicates the individual concerned. This can mean providing false information about the company’s assets or embezzling funds for personal gain.
Financial consequences for creditors
Bankruptcy has the effect of rendering the bankrupt party’s debts payable, even if they are not due at the time bankruptcy is declared, and of suspending interest on debts as soon as proceedings are initiated.
It is the responsibility of the bankruptcy office in charge of the proceedings to estimate the value of the company and handle its liquidation. The funds collected are allocated to paying off creditors. It is not unusual for them to collect only 0 to 10% of their debt at the end of the bankruptcy. However, creditors have the option of disputing the amount they are allocated during the proceedings.
In the event of bankruptcy, not all creditors are placed in the same category. For repayment, they are placed in one of three categories of differing priority (Art. 219 LP):
- First priority. The employer’s debts to employees, including salaries; mandatory accident insurance entitlement (UV) and occupational pension funds (second pillar); maintenance and alimony debts. Debts secured with collateral (in the case of a mortgage, the house is sold and the money is used to pay off the creditor).
- Second priority. Debts of individuals whose assets were placed under the administration of the debtor by virtue of their parental authority; old-age and survivors’ contribution debts (OASI), disability insurance (DI), income compensation insurance (APG) and accident insurance; debts relating to premiums and contributions to social health insurance costs; contributions due to family allowance compensation funds; tax debts within the meaning of the VAT Law.
- Third priority. All other debts, such as supplier debts, customer debts, etc.
Shareholders’ financial contribution constitutes, in a way, a fourth category of priority. Usually, the funds collected during the company’s liquidation are not enough to pay this off.
A few specific instances:
- When the debt is not a sum of money. A debt in the form of services, work or service-provision in kind must be converted into cash. The Bankruptcy Office will estimate the value of the service-provision at the time of the proceedings. In some cases, it will prefer to execute the service-provision.
- When the debt results from delivery of an item before the bankruptcy. A person or company that has delivered an item, for example, in the context of a contract of sale, may not claim restitution of an item which has not been paid for (Art. 212, LP).
- When the bankrupt party’s debtor is also their creditor. In most cases, the debtor may offset their debt with their claim. This is because it would not be appropriate to require them to pay their whole debt, making them run the risk of receiving only a dividend corresponding to a percentage of their claim.
Consequences in terms of image for the entrepreneur
Bankruptcy is not without consequences for an entrepreneur’s image. Deletion of a company from the trade register remains visible publicly not only during but also after the period of the proceedings. A simple Internet search is often enough to find this out, usually on the website of private economic information agencies such as Moneyhouse.
One point is often neglected: in the case of a corporation (SA), the name of the company director features in the trade register, not the names of the shareholders. The former, then, is especially disadvantaged. As far as sole proprietorships and limited liability companies (SARLs) are concerned, this pertains respectively to the name of the owner and the names of the partners.
Economic information agencies such as Creditreform or Moneyhouse collect and provide information, on request about the insolvency of persons. An entrepreneur having been through several bankruptcies may therefore be refused credit. Other potential consequences: equipment may only be delivered against cash payment, or credit card limits may be lowered.
Accepting failure and starting again
Bankruptcy does not have to mean the end of an entrepreneurial career. Quite the opposite: acceptance of failure is one of an entrepreneur’s qualities. This involves learning lessons and coming back with new energy and innovative ideas.
Many entrepreneurs stay within their sector because they know the market, the products and the competition. Bankrupt owners often even buy back the assets of their bankrupt company themselves and start again on this basis. However, it is not acceptable for an entrepreneur, having gone bankrupt, to continue the business under another name, using the same machinery and the same order book, while abandoning his or her employees. The entrepreneur's obligations to the employees should be resumed (Art. 333 CO).