Business Removing

CLOSING A BUSINESS 73
foreclosure or bankruptcy case to continue on appeal is
associated with 20% less time in closing a business. And
it almost doubles the chance of keeping it operating.
Pay administrators for maximizing the estate value
Administrators can be paid on the outcome of bankruptcy,
setting incentives to maximize proceeds. Doing so
increases recovery rates—by 20% on average. Fifty countries
pay on market proceeds. The list includes Denmark,
Japan and the United States, as well as many developing
countries—including Jordan, Malaysia and Slovakia. But
many countries set perverse incentives, paying administrators
a monthly salary. In this case, more delays mean
higher income—hardly an incentive for the administrator
to speed the process.
Why reform?
FIGURE 9.7
Higher recovery, more credit…
Private credit as a percentage of GDP
Greater
share
Efficient insolvency helps new entrepreneurs start and
grow their businesses. With higher recovery rates, banks
are more willing to lend (figure 9.7). And more money
goes to new business ventures. The freedom to fail in
business, and do so through an efficient process, ensures
that a country’s people and capital are put to their most
productive uses. Entrepreneurs benefit the most, as seen
by the strong association between the closing of failed
businesses and new start-ups (figure 9.8). Closing inefficient
firms increases overall productivity. Exit of unviable
businesses contributed 19% to productivity growth
in Taiwan (China), 23% in Korea and 39% in Indonesia
in the 1990s. 15
The link between entrepreneurship and the closing
of unviable businesses is not as novel as it may sound. It
is nothing more than Schumpeter’s notion of creative
destruction, where new people—or sometimes the same
people—try to develop new ideas into profitable businesses.
Schumpeter surely would have frowned at the expansion
of sophisticated rescue techniques for failed
businesses in developing countries.
FIGURE 9.8
…more exit, more entry
Exiting and entering firms as a percentage of total firms
(manufacturing firms, 1995–2002, weighted by employment)
Entering firms
7
6
5
INDONESIA
FINLAND
Lesser
share
Lowest rate
Highest rate
Countries ranked by recovery rate in insolvency, quintiles
Note: Analysis controls for income, GDP growth, contract enforcement, legal rights
and credit information.
Source: Doing Business database, World Bank (2004a).
4
ROMANIA NETHERLANDS TAIWAN
ESTONIA
U.K. CHINA
CHILE
3
HUNGARY
ITALY
MEXICO
U.S.
PORTUGAL
2
BRAZIL
COLOMBIA
ARGENTINA
1
0 1 2 3 4 5 6
Exiting firms
Source: Bartelsman, Haltiwanger and Scarpetta (2004).
KOREA
Notes
1. This is the result of having less efficient procedures, but also of the
larger proportion of businesses that operate in the informal economy.
2. US Census Bureau (2003), table 748, p. 506.
3. Easterbrook (1990).
4. Dollars and cents are used as generic terms for local currency units
throughout the chapter.
5. But in the Netherlands where the process lasts 19 months.
6. In all ten, secured creditors have priority in the distribution of bankruptcy
proceeds, before taxes, employees and suppliers.
7. The data are built assuming that the business is viable, so that the value
of the firm is higher as a going concern and the efficient outcome is either
reorganization or sale as a going concern.
8. A new bankruptcy law was amended and approved by the Senate on
July 6th 2004.
9. The insolvent firm is viable by assumption of the case study.
10. The calculation is (100 – (4% x 100) – (25 x .2 x .5))/(1+.018) ^0.5 = 92
11. Research shows that the average loss in efficiency from exit of viable
firms is 30%. See Data Notes Section for details.
12. The calculation is (100 – (8% x 100) – (25 x .2 x 4.6))/(1+.45)^4.6 = 7
13. Witness the draft Insolvency Bill in Nepal. It envisages a courtappointed
reorganization manager. See details in Pradhan (2004).
14. Baird (1986).
15. Annual average labor productivity growth in Taiwan (China) from
1981–96 was 7.6%; in Korea from 1983–93 was 11.6% and in Indonesia
from 1992–95 was 12%. Source: Aw, Batra and Roberts (2004).