There were a lot of notable bankruptcies in 2023. This ranged from the biggest bank failures since the Great Recession (Silicon Valley Bank) to former startup titans (WeWork), longstanding American brands (Bed Bath & Beyond, Yellow), and US subsidiaries of massive international companies (Evergrande). To wrap up the year, let’s dive into some of the causes of the uptick in bankruptcies, why major company names aren’t disappearing anytime soon, and why an uptick in bankruptcies this year isn’t necessarily a bad thing.
First off, why are there so many notable bankruptcies? In short: the end of easy credit. US Federal Reserve uses its Federal Funds Rate to prop up or rein in an economy in its quest for stable employment and inflation. The rate affects how costly it is for banks to borrow money, and thus how costly it is for companies to get loans from banks. From the Great Recession to early 2022, the fed funds rate has been between 0%-2%, but close to 0% the vast majority of this 15-year span. Companies could borrow very cheaply, and they did so with loans and bonds. The people (and companies) who held the loans and bonds were making a lot less than they used to in prior decades, so they looked to other investments to increase their returns. As the Fed began to rapidly increase their rate to tame inflation, and the easy credit stopped, companies faced ballooning debt payments. A loan at 0.5% interest that could be pushed down the road with another, slightly larger loan also at 0.5% interest suddenly required borrowing at 5% interest. If a company wasn’t making at least that much from its investment, it needed to cut its losses, and those that tried to secure additional funds anyways were increasingly turned away by lenders who didn’t see a path to profitability. If you can’t fund the cost of your basic operations, then you’re bankrupt.
At the same time, Silicon Valley Bank (SVB) branches are still open, WeWork spaces are still running, and Bed Bath & Beyond is still selling goods online (with its 20% off coupons still intact). That’s because they all filed for Chapter 11 bankruptcy. Unlike Chapter 7 (which is the more straightforward “shutting it all down”), Chapter 11 gives a company ample time to reorganize, continue day-to-day operations, and figure out a plan to repay some of its debts (while defaulting on others). One solution is to sell the company: SVB is now owned by First Citizens Bank, the Bed Bath & Beyond name and IP was bought by Overstock.com, Evergrande has managed to delay full liquidation as it tries to emerge from bankruptcy intact, and companies like WeWork and Yellow [Trucking] will likely be sold piecemeal (including the rights to their name and trademarks) as their bankruptcies commence.
It’s not just big companies declaring bankruptcy, either. Small businesses employ half of the US workforce, and there’s been an uptick in Subchapter V (more common for small businesses) bankruptcy filings in 2023: 1,659 through October 2023, compared with 1,553 for all of 2022. These numbers are still below pre-pandemic norms, though.
Bankruptcy sucks if you’re the one experiencing it, but it serves an important purpose in the business ecosystem. Startups like WeWork have had more and more funds poured into them while low interest rates left few “big growth” options, as investors hoped an acquisition or IPO would increase their riches (regardless of whether the startup itself ever makes money). Yellow was given $700M in pandemic funds by the government, but apparently didn’t make good use of it. So-called “zombie” companies that plod along with easy money are finally laid to rest via bankruptcy, freeing up time and capital for more useful and innovative companies. Companies can also emerge from bankruptcy with a path to profitability and a stronger business model to pay back their creditors. Lenders will be more careful with how they spend funds as more past bets evaporate (e.g. fewer bets on startups with no path to profitability). All together, the ecosystem becomes healthier.
Time will tell what other companies collapse, big and small, when loans and leverage are not as plentiful. The big names we see, and the small names we don’t, serve as reminders to the companies that survive to make sure that investments and their potential returns are properly vetted.
Andrew Jabara 