Commercial Bankruptcy in Canada

Over the last decade, the topic of bankruptcy has been an object of growing concern. In Canada, the number of business bankruptcies under the Bankruptcy Act has risen significantly since the beginning of the 1980s. From 6,595 in 1980, the number of bankruptcies rose to 8,664 in 1989, to 14,317 in 1992 to finally settle at 11,810 in 1994.1 In addition, a large but uncertain number of business failures do not use the Bankruptcy Act to wind up their affairs. The net benefits of using the Act would not be worthwhile in many cases. In December 1992, a new legislation governing bankruptcy in Canada came into effect with the main objective of promoting financial reorganization at the expense of bankruptcy (Martel, 1994a and Fisher and Martel, 1994a). Yet, these legislative changes took place without any reference to detailed analysis of the characteristics of firms seeking the protection of the Act as well as those affected (i.e. creditors) and the extent to which each category of creditors is affected. Until recently, the vast majority of the empirical literature on firms in bankruptcy was based on U.S. data. In Canada, this phenomenon has been the object of few studies. Kryzanowsky and Holland (1984) examined the characteristics of 76 firms which filed for bankruptcy under the Canadian Bankruptcy Act. Fisher and Martel (1995, 1994a,b) and Martel (1994b) provided significant evidence on the characteristics of firms in financial reorganization in Canada. However, the analysis is still incomplete due to the lack of information on firms going through straight bankruptcy under the Act.2 This article addresses the lack of data and provides new evidence on the characteristics of bankrupt firms based on a representative sample of 417 firms which filed for court protection under the Bankruptcy Act for the period 1977-1987. The first section offers an overview of the bankruptcy process in Canada prior to December 1992. Amendments to specific provisions of the Act are discussed in the notes. This is followed by a detailed analysis of the data. According to the data, firms in bankruptcy are typically small firms. Ninetyeight per cent have a book value of assets less than $500,000. Their financial health is critical with a mean liabilities-to-assets ratio of 72.2 and a median of 8.1. Trustees and legal experts appear to be the greatest beneficiaries in bankruptcy, with administration costs accounting for over 50 per cent of the value of assets liquidated. This is reflected in the substantial losses incurred by unsecured creditors and to a certain extent by preferred creditors with a payoff rate in liquidation of 2.5 per cent and 23.1 per cent respectively. For business failures which do not use the Bankruptcy Act, the losses to unsecured creditors are probably larger. Finally, the last section discusses of possible remedies to minimize the negative effects of bankruptcy.