A wave of bankruptcies has not come. The lull before the storm?

Recent data suggest that bankruptcy procedures of only 157 companies have been initiated in Lithuania during the Ist quarter of this year. Compared to the same period of 2020, the number of bankruptcy procedures has dropped by nearly 50%. Such data of the Authority of Audit, Accounting, Property Valuation and Insolvency Management could be surprising in the context of the COVID-19 pandemic. However, it is important to note that the number of out-of-court procedures has grown by nearly 70%. Let us look at the real meaning of these numbers.

Why did the overall number of procedures decrease?

There can be several reasons for the decline in bankruptcy procedures. First, it might be reasonable to state that the state’s tax aid measures and benefits to business affected by COVID-19  help maintain its viability. Second, business undertakings possibly are still reluctant to address their solvency problems. It is important to mention that the decline in bankruptcy procedures was recorded before the 2008 economic crisis too. Third, in 2020, the Law on Insolvency of Legal Entities (“the LILE”) that came into force before the pandemic reformed the insolvency procedure in Lithuania and created more favorable possibilities for business dialogue with creditors.

More out-of-court procedures

Although the overall number of bankruptcies declined in Lithuania in the first quarter of this year, an interesting trend is that the number of out-of-court procedures has increased by nearly 70%.

Out-of-court bankruptcy procedures are often preferred because a meeting of creditors has the competence to decide on the appointment of an insolvency administrator. The meeting of creditors also resolves all issues that the court decides in judicial bankruptcy proceedings.

Such judicial alternative thus often seems more attractive to business. Consequently, the increased number of out-of-court bankruptcy procedures explains in part why most often initiators of bankruptcy procedures were namely executives of companies.

Restructuring potential unrevealed

One of the main aims of the LILE is to promote business restructuring while business is still viable, rather than choose bankruptcy as an immediate option. The statistics, however, show that during the first quarter of this year, barely four restructuring procedures were started, i.e. 63.6% less than during the respective period in 2020 (11 procedures).

At least two reasons can cause the unpopularity of the restructuring. First, the already mentioned state’s tax aid measures and benefits helping maintain companies’ viability and ensure their continuous activity. Second, possibly low efficiency and/or attractiveness of the LILE within the scope of restructuring.

For the latter reasons, it should be noted that the LILE, which came into effect in 2020, will be amended shortly. The purpose of the law is to implement the EU Restructuring Directive and create even more preconditions for encouraging restructuring processes and their successful implementation.

It is too early to project the tendencies of insolvency processes for the nearest period because of both the changing economic environment (business returning to its regular operation, end of the state’s tax aid measures and benefits etc.) and the planned amendments to the LILE.

Nevertheless, irrespective of the dominating tendencies, the situation of each business entity facing difficulties should be viewed individually and critically. Financial challenges of business should be dealt with by choosing a way of addressing the solvency problems that is the most suitable and, which is highly important, timely for that business entity.