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Why do companies become insolvent? Romanian businessmen have poor risk management skills

Romania has among the longest and most difficult company insolvency processes in the European Union, mainly because a lot of investors have serious issues in understanding risk mitigation strategies, said Sierra Quadrant experts, in an insolvency related market study conducted in collaboration with KeysFin.

Do you know who is your business partner? A simple question but with multiple nuances in the Romanian business environment. Who do you sign a contract with, the partner you temporary finance via the supplier credit, who you issue an invoice to or how do you know that he/she will pay their dues in time? These are questions that too few investors ask themselves, and the number of firms that have started insolvency proceedings stands as proof.

"Being captured by the short-term profit mirage, dupable and too little interested in business risks, many managers wake up, overnight, and realise that they have to resort to insolvency protection as an ultimate lifeline," said Ovidiu Neacsu, Coordinating Associate of Sierra Quadrant, one of the main players on the Romanian insolvency market, with an EUR 100 million plus portfolio.

According to the Sierra Quadrant study, conducted using KeysFin data, a considerable number of businessmen find themselves in this situation.

The study reveals that the number of companies that started insolvency proceedings each year was relatively constant, around 7000 firms in the

2010-2017 period, with only minor fluctuations from year to year.

Thus, if in 2010 there were 7052 companies in insolvency proceedings with a turnover of 51.1 billion lei, in 2016 there were 6901 companies, with net revenues of 21.4 billion lei. For 2017 the financial data is yet unavailable except for the number of companies.

The Trade Registry data shows that 9102 companies and registered sole traders started insolvency proceedings in 2017, an 8.73% increase when compared to the previous year. In the first quarter this year there was a 19.3% increase when compared to the same period from 2017.

Most companies in insolvency from 2010 to 2018 (Q1) are micro-enterprises (94%), followed by small firms (4.5%), evidence that a weak financial position proves to be a weakness in exiting risky situations.

"In Romania a company starts the insolvency proceedings primarily due to financial bottlenecks caused by temporary insufficient financial resources, bad investment decisions and the absence of an economic realistic risk strategy. From our experience, there are serious gaps in risk-related know-how and economic education in many companies, from the entry level to the economic, financial managers or even the business owners," said Ovidiu Neacsu, an official receiver with 20 years plus of experience in insolvency proceedings.

INSOLVENT COMPANY PROFILE

According to the Sierra Quadrant study, the company vulnerable to insolvency is in most cases a micro-enterprise, mainly active in trade, most often registered in the Bucharest-Ilfov region, that is managed by a Romanian businessman with an average age of approximately 50 years.

One third of the 7,000 insolvent companies’ turnover was registered, according to the latest official data from the Trade Registry, in the Bucharest-Ilfov region (7.23 billion lei), followed by businesses registered in the Central, North-West, South-Muntenia and South-West Oltenia regions, each with a turnover of over 2 billion lei.

Most companies in insolvency proceedings had in 2016 trade as a main scope of activity (1940), followed by the manufacturing (1323), construction (1285), transportation & storage (444), agriculture (430), and HORECA (363) industries.

"Even if, when analysing the overall turnover of companies affected by the insolvency process declined significantly from 51.1 billion lei in

2010 to 21.4 billion lei in 2016, it is important to note that the liabilities of these companies have risen in the same period from 57.4 billion to 75.3 billion lei," said Sierra Quadrant experts. Other interesting facts about these companies are: the average life of 11.3 years, and that one third (30.4%) were active 6 to 10 years.

Regarding the insolvent company shareholder profile, most of investors were men (6985), with an average age of 49.6 years, who were active in trade, manufacturing, constructions, transport and services. There were

3876 female shareholders involved in insolvent businesses with trade as a main scope of activity, and an average age of 48.5 years.

Altogether, more than 90% of the investors of the insolvent companies were of Romanian (11024), followed by Italians (223), Turks (106) and Germans (60).

INSOLVENCY: A BIG HEADACHE FOR ROMANIANS

According to the Sierra Quadrant study, Romania is one of the European countries with the longest and most difficult company insolvency periods, calculated from the official opening to the termination of the insolvency procedure.

If the global average time to resolve insolvencies was 2.5 years in 2017, in Romania it was 3.3 years, a level similar to that of Bulgaria, Greece and Slovakia. The contrary is true for Ireland that registered an average time to resolve insolvencies of only 4 months, Finland with 9 months, UK 1 year and Germany with an average of 1.2 years.

For the European Union, the average time to resolve insolvencies was close to 2 years, and in the euro area it was 1.9 years in 2017.

The latest information from the legal front indicates a possible change to the local Insolvency Law so that companies won’t be able to extend this process for years.

According to representatives of the ruling coalition, "there are companies that have been in insolvency proceedings six or seven years, where the judicial reorganization plan has not yet been approved, although the Insolvency Law provides that you have a six-month observation period, then you have to draft a plan that is implemented within a maximum of three years. If in three years there are no positive results, the respective company is declared bankrupt and its goods liquidated”.

Ovidiu Neacsu says that beyond the legal framework, the business environment needs to understand the current need for on-going economic and financial education.

"Businessmen need to become aware of and try to prevent risky situations that may lead to insolvency or bankruptcy. There is a need for continuous education in this sector, the improvement of risk management skills and investment strategies based on the current economic reality, not just on hopes, enthusiasm and optimism. Business information, credit risk management services are fundamented in a highly dynamic and unstable economy from many perspectives, especially in terms of the market capitalization process, as is the case of Romania," said the Sierra Quadrant Coordinating Associate.

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