Academic journal article Review of Business

Modern Bankruptcies as Tools for Teaching Valuable Lessons in Business

Academic journal article Review of Business

Modern Bankruptcies as Tools for Teaching Valuable Lessons in Business

Article excerpt

Executive Summary

Every day the headlines are full of news of giant corporations that have fallen into bankruptcy or stand on the brink of the abyss. Business school educators can seize this opportunity and turn these calamities into valuable teaching tools, as bankruptcy is not just about insolvent companies and creditors scrambling to get paid, nor is it simply limited to legal issues. To the contrary, modern bankruptcy scenarios provide a wonderful teaching opportunity across a broad swath of disciplines and provide educators with the ability to explain and examine the vital interaction between finance, accounting and management, to name a few. This article highlights a few key points and posits a methodology for teaching them.


Enron and WorldCom are infamous names familiar to most people. More recently and at a different "altitude," we have Delta, Northwest and United. And who in America today has not agonized over the bankruptcies of the once great Lehman Brothers, Chrysler and--possibly most astonishing of all--General Motors? Once again, "megabankruptcies" preoccupy the world of business. Banks, financial institutions, vendors and businesses of every size and shape must grapple with grave issues when a customer, supplier or competitor files for bankruptcy (and even when one of these institutions joins the rolls of the insolvent).

Business educators must take careful note as well. Today's bankruptcy process offers a multitude of lessons, among them: how to avoid the abyss of insolvency; methods of restructuring the troubled concern; and shaping strategies to maximize creditor recovery. Yet there is so much more, for modern bankruptcy proceedings offer enlightening insights on the legal and business environment that our students will soon enter.

Bankruptcy can be a vital and interesting tool to inculcate students with a number of essential concepts of modern business critical to their future success. The purpose of this article is to highlight just a few of those points and suggest a methodology for teaching them.

Finance and Secured Lending

In business today, nearly everyone borrows money to finance its growth. We teach classes wherein we demonstrate to students the theory of corporate finance. Bankruptcy is the crucible where we test mere theory to the maximum and discover what works and what doesn't. It is easy to apply those real world lessons in the classroom.

Secured Creditor Status - A Worthwhile Goal

Creditors in bankruptcy cases can be divided into two fundamental classes: secured creditors and unsecured creditors.

Secured creditors loan money on the basis of a promise to repay (with interest, of course), joined to a pledge of collateral ("secured assets"). In the event of default, the collateral will be turned over to the lender in satisfaction of the unpaid debt. This is the very essence of secured lending and the entire asset-based lending (ABL) industries.

Immediately, we have two valuable business lessons. One, in secured financing, the borrowing business either repays in debt in real dollars (the nominal way) or, if it cannot, then it effects repayment by the surrender of the pledged asset, voluntarily or by court proceedings. (1) Oft times, bankruptcy cases powerfully illustrate the latter as the lender's means to retake the pledged asset.

Second, businesses will many times borrow money to purchase an asset and then pledge that newly acquired asset as collateral. This is "purchase money financing," and it amply demonstrates how one can grow a business by carefully managing debt to acquire productive assets. It also highlights sound business judgment that the newly acquired asset must "earn its keep," and individually or jointly generate sufficient revenue to pay for itself. (2)

Secured creditors are basically the more intelligent among creditors; bankruptcy teaches that if the debtor can't repay the debt in real money, it repays it by surrendering the asset. …

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