Europe’s flawed insolvency regimes will face a severe test in 2009
THE word “bankrupt” originally came from Italy, deriving from banca rotta, or broken bench. When a medieval moneylender could not pay his debts, his bench was broken in two, sometimes over his head. Things are not quite so brutal these days, but European countries still deal with insolvent firms far more harshly than America does, and most such firms end up in liquidation. They often treat creditors badly too, meaning that neither side ends up satisfied. Observers worry that Europe will cope with the coming flood of defaults far less effectively than America, meaning a slower recovery.
Standard & Poor’s (S&P), a rating agency, reckons that 60-75 European companies from its speculative-grade category could default on a total of €20 billion-25 billion ($28 billion-35 billion) of debt in each of 2009 and 2010, taking the overall default rate up as high as 11.1%, compared with 3.2% for the past 15 years. In more normal times, most distressed companies would work things out with their creditors in private restructuring processes. But a combination of high leverage and so-called “covenant-lite” loans, which mean that a firm can get into serious trouble before breaching loan conditions, is likely to mean that many more companies will end up in a formal, legal process. In addition, out-of-court restructurings usually involve lenders making new money available, which is less likely in today’s market conditions.
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