Crisis Management: Bankruptcy and Reorganization

1. Crisis Management:Bankruptcy and Reorganization APEC SME Crisis Management Training Workshop 05/24/2010 Prof. C. Y. Shirata University of Tsukuba E-mail: shirata.cindy.fe@u.tsukuba.ac.jp

2. Self Introduction • Professor of Accounting • Graduate School of Management Sciences, University of Tsukuba • Committee Member of Ministry Of Land, Infrastructure, Transportation and Tourism • Member of Science Council Japan, • Chair of Management Educators/Researchers Group appointed by Prime Minister Japan

3. What can you learn from Japan?

4. Cases Mill. Yes The Plaza Accord Nixon Shock Failure number and Debts per case in Japan Debts/case cases High Yen appreciation caused many SMEs’ failure. China in the future? Huge Financial Institutions went into bankruptcy! Source: Teikoku Data Bank

5. The Plaza Accord Nixon Shock Failure Ratio High growth period Business Failure Ratio ％ Stable period Bubble Economy Post-bubble period Growth Period Yen's Appreciation Period

9. How to Predict Bankruptcy?-The credit control is the most Important role of banks!-

10. 1 year 6months 1month 5days 4days 3days 2days 1day Relationship between Stock Price and Bankruptcy - Bankruptcy cases between 1992-2004 -

11. Failure of Management Strategy Failure of Marketing Strategy Poor sales / Slump in export Failure of Credit Control • External Factors • Increasing bad debts Factors to cause bankruptcy I am a rule! • Failure of • Investments • Bad Risk • Management • Internal Factors • Delay of technology/ new market needs • Diversification Failure • Bad Stock Control • External Factors • Competing with foreign- made products/big companies • Industry slump Remote Cause • Poor • Management Failure of Financing Lack of Cash（Financial Distress) • External Factors • Exchange rate Stock Price Bankruptcy Proximate Cause Court Out of Court

12. Develop Your Own Bankruptcy Prediction Model!How to built the SAF2002 Model which is the most well-known bankruptcy prediction model in Japan

13. Collect Sample Data SMEs

14. We should know the factors to cause changing financial numbers! Select Variables • Economic Environment • Interesting Rate e.g. • Land Price • Currency Exchange Rate

15. 2 1.5 1 0.5 0 1995 1996 1997 1998 1999 2000 What can you learn form this time-series analysis? e.g.）A financial ratio of a firm who had gone into bankrupt in 2001. % Can you say that a shift in above ratio is brought by a change in financial conditions of this firm?

16. CHANGES IN THE ECONOMIC ENVIRONMENT Interest Rate Fluctuation % Source: Prepared based on the Financial and Economic Statistics by the Bank of Japan

17. Investment Efficiency Index Average Interest RatioRegarding Liabilities % % Income before Interest and Tax to Equities Interest to Sales % % ◆　B-Median　■　B-Mean　▲　Non-Median×Non-Mean

18. Average Interest RatioRegarding Liabilities Investment Efficiency Index % % Income before Interest and Tax to Equities % Recent tendency!

19. Ordinary Profit Growth Rate Equities Growth Rate % % ◆　B-Median　■　B-Mean　▲　Non-Median×Non-Mean There appeared to be a time-series correlation between the two ratios That are affected by changes in the Economic Environment

20. Not Affected by Changes in the Economic Environment Equities Turnover Period Working Capital Turnover Period 月 月 Expenses per Employee Receivables Turnover Period 千円 月 ◆　B-Median　■　B-Mean　▲　Non-Median×Non-Mean

21. Fixed Assets to Owner’s Equity and Long-term Liabilities Liquidity Ratio % % ◆　B-Median　■　B-Mean　▲　Non-Median×Non-Mean They are steady ratios that are not affected by time changes! However…they are ineffective No Significant difference!

22. Operating CF Operating CF +Interest % % Cash flow Margin Current assets to Cash flow % % ◆　B-Median　■　B-Mean　▲　Non-Median×Non-Mean Cash flow related ratios are ineffective for financial analysis of Japanese Firms!

23. When the firm is facing financial distress… Try to sell assets to increase cash in hands. Increasing current assets Decreasing liabilities Balance Sheet Results…. Decreasing Fixed Assets to Owner’s Equity& Increasing Liquidity Current Assets Current Liabilities Long-term Liabilities Long-term Assets O’s Equity

24. Fix Assets to Long-term debt and Owners’ Equity H L Bad Good (1992-2000) Two types of Financial Ratios Type1Linear Type2Non-linear (2000-2004)

25. Affected by any change in the economic environment Comparative time-series analysis would be sometimes mislead information users! • Corporate behavior facing financila distress statistically significant is different from being significant in the light of accounting Should find out (extract) stable ratios to make an accurate decision of interested parties!

26. Check the distribution

27. Final Variables by CART retained earnings to total liabilities and owners’ equity ROA(befofre TAX) inventory turnover period interest expenses to sales

28. Check the discriminant power of variables And reduce the variables!

29. Reasonable Inventory High Retained Earnings! Less Debts Or No Debt High Net Profit! Modeling(SAF2002Model) Xi= 0.085X7 + 0.203X10 - 0.351X37 - 0.112X26 + 0.831 SAFL = 1 /1 + exp(-Xi ) ……Formula 1 SAF2002 = 0.0104X7 + 0.0268 X10 - 0.0661X37 - 0.0237X26 + 0.7077 ……Formula 2

30. SAF2002 Model is the Most well-known Bankruptcy Prediction Model In Japan -Many financial institutions are using it to analyze companies under credit control-

31. Find the best Cut-off Point cases B Non-B Cut-off0.68 = Discriminant power of B-group is 83.33% and Non-group is 77.23%

32. Strongest Prediction Power Ratio retained earnings to total liabilities and owners’ equity

33. Retained Earnings to Total Liabilities and Owners’ Equity % ◆　B-Median　■　B-Mean　▲　Non-Median×Non-Mean It shows very strong discriminant power!

34. % Source: Tax Agency Japan

35. Tendency of Owners Equity Ratio % Source: Tax Agency Japan

36. High Correlation Financial Ratios with Ratings of Rating Agencies

37. Cut-off Point The Distribution of the SAF Values of each S&P Rating

38. Use the Bankruptcy Prediction Model for Rating the companies! -It is more easier when you analyze the companies than looking at the SAF-value itself-

39. AA A BB B C SAF Value of each Classification Period –Rating Level

40. AA A BB B C SAF Value at the Threshold of Each Rating（SAF samples v.s. NIKKEI Listed）

41. Rating by SAF Model Nintendo1.92 SAF value AA Kao1.48 Itoh Yokado1.28 A BB JR East 0.71 Kanebo0.50 B C points

42. NEW TENDENCY?! -Strategic Bankruptcy-

43. As I mentioned before, Failure ratio is stable now! Source: Teikoku Data Bank

44. However….Increasing Bankruptcy Why?

45. 1 reason: Reorganization of Banks in Japan

46. Another reason:Reorganization-Oriented Procedures What is the incentive to choose the procedure？ Literature：Helwege J & Packer F, Determinants of the choice of bankruptcy procedure in Japan, Journal of Financial Intermediation 12(2003):96-120.

47. Revaluation of Assets-Accounting and Laws- Manager can remain as a CEO to continue their business.

48. REHABILITATION PERIOD OF LISTED COMPANIES (2000～2004/ 31 out of 79） Longer US Chapter 11 filing companies (1980-2004) Reorganization Period: 1 month – 82 months Average: 18-19 months

49. REHABILITATION CASES Incl. SEMs (Apr., 2000-Dec., 2006) Filed CRL ≠Turn Around Listed Firms; 39.2%

50. REHABILITATION PERIOD OF FAILURE LISTED COMPANIES