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FINANCIAL MANAGEMENT - SURPRISES IN GLOBAL AND SLOVAK INSOLVENCY ARE EXPECTED

The economic shake-out will continue

THE WORLD economy appears to have hit the peak of the business cycle in late 2003 and early 2004 and is now in a slowdown phase. After growing 4 percent in 2004, world GDP growth should slow to 3.2 percent in 2005 and then to 2.8 percent in 2006. There is nothing catastrophic in this scenario, but it does imply a trend reversal for business insolvencies around the world.

The Insolvency Act approved by the parliament will raise the number of bancruptcies in Slovakia.
photo: SME - Pavol Funtál

THE WORLD economy appears to have hit the peak of the business cycle in late 2003 and early 2004 and is now in a slowdown phase. After growing 4 percent in 2004, world GDP growth should slow to 3.2 percent in 2005 and then to 2.8 percent in 2006. There is nothing catastrophic in this scenario, but it does imply a trend reversal for business insolvencies around the world.

A rise in insolvencies across the world in 2006


This is mainly due to the economic situation in the United States, which remains the driving force in the global economy, accounting for roughly 30 percent of world GDP. After years of monetary and budgetary stimuli, the rise in interest rates, the firming of the dollar against the euro and yen, and the return to a slightly less open-handed budget policy should take American growth to below 3 percent in 2006, causing US business insolvencies to rise for the first time since 2002.

In Europe, the eurozone missed out on world recovery and has seen lower growth in 2005, while the United Kingdom is in net economic slowdown. In the eurozone, business insolvencies should remain stable at a high level in 2005 and 2006, but they should increase in the United Kingdom. Growth in the new industrialised countries (or NICs), with China in the lead, should remain more dynamic than in what we term the old industrialised countries (or OICs).

Nonetheless, growth in the NICs should slow, given their economies' strong dependence on US domestic demand. How this will impact on insolvencies in these countries is more difficult to predict.

Generally, cyclical elements are bringing a downward trend in insolvencies in countries such as Brazil and South Korea, among others. But insolvency legislation in these countries is of recent vintage or in the gestation stage, the statistics are often incomplete, and business legal status and accountancy methods are often very different from those encountered in the OICs.

Growing GDP in Slovakia will not reverse the negative trend in insolvencies.
photo: TASR

Developing a legal framework for insolvencies can involve a significant wave of increased insolvencies (e.g., in Slovakia), and a shake-out among large money-losing public companies (eg, in China) could hold some nasty surprises for the years to come.


Annual change of insolvencies


In very many countries, there is a close correlation between the business cycle and insolvency figures. Generally, it takes GDP growth of 2 to 3 percent to stem the rise in insolvencies, and there is a very high elasticity of insolvencies to growth.

A 1 percent decline in GDP usually leads to a 5-10 percent increase in insolvencies. Beyond cyclical fluctuations, different countries have for a long period enjoyed very different average rates of growth, and this is reflected in long-term insolvency rate of change.

From 1991 to 2004, insolvencies fell by half in the US and the UK, but remained fairly steady in France and rose by a factor of 4.5 in Germany. Over the same period, growth averaged 3.3 percent in the US and 2.8 percent in the UK, compared to 1.9 percent in France and 1.3 percent in Germany.


Insolvencies in Slovakia - the shake-out will continue


The situation in Slovakia is somewhat different. In 2005, Slovakia's economic growth reached its historical maximum of 6.0 percent which exceeded all the expectations.

The strength of the economy relies mainly on strong domestic demand, and particularly on household consumption, which has profited from strong growth in wages. This does, however, bring a swelling in imports and reduces contributions from the foreign trade sector.

Paradoxically, the fast growth of the gross domestic product will not be enough to turn the trend in the number of insolvent companies. This paradox is explained by the housecleaning in businesses that began in 2004, which has brought an explosion in insolvency petitions, a large part of which made their way into the effective insolvency statistics for 2005. The number of bankruptcy petitions boomed from 2,184 in 2004 to 3,907 in 2005. Almost 70 percent of these petitions were placed by the courts in the second half of the year.

The total number of insolvencies in Slovakia in the last year increased by 66 percent to 1,645 from 990 in 2004. Most alarming is the fact that in 80 percent of these 1,645 cases, the bankruptcy declaration was refused due to the lack of assets. The number was 1,352 cases, almost doubled from 767 cases in 2004. These figures show that there is an increase of companies that are completely insolvent.


2006 outlook for Slovakia


The economic outlook for Slovakia remains excellent, with GDP expected to rise by around 6 percent in 2006. However, this will not be enough to reverse the trend in insolvencies, especially with new legislation coming into force at the beginning of year.

On January 1, 2006 completely new legislation, the Insolvency and Restruc-turalization Act, became effective. The aim of the Act is to speed up procedures, transferring decision-making power from the court to the trustee and creditors. Other aims are to decrease costs and maximize the bankruptcy dividend. The Act places greater emphasis on rehabilitation rather than liquidation. This new legislation should inflate the number of insolvencies. These should accordingly increase by 8.7 percent, to nearly 1,800 cases in 2006.


Karel Tkáč is claims
and debt collection manager
in Euler Hermes Servis, sro


Insolvency in selected countries
Number of insolvencies 2000 2001 2002 2003 2004 2005 2006
USA 35 472 40 099 38 540 35 037 34 317 33 900 34 900
Canada 10 040 10 371 9 458 8 838 8 118 7 800 7 600
Japan 18 769 19 164 19 087 16 255 13 679 12 900 13 200
Germany 28 235 32 278 37 579 39 320 39 213 38 600 40 000
France 43 572 42 036 42 897 48 095 48 673 51 000 51 000
Italy 11 641 10 767 10 683 10 463 11 083 11 700 12 300
Spain 828 759 1 037 1 012 983 810 850
Netherlands 3 579 4 330 4 963 6 386 6 648 6 820 6 670
Belgium 6 791 7 062 7 200 7 593 7 910 8 000 8 080
Austria 5 340 5 178 5 281 5 643 6 318 7 200 6 500
Portugal 1 558 1 703 1 929 2 412 2 605 2 400 2 530
Finland 2 790 2 674 2 807 2 714 2 385 2 290 2 170
Greece 805 700 618 608 730 770 800
Luxembourg 581 750 682 656 663 690 700
Ireland 373 483 428 377 361 370 350
United Kingdom 24 269 24 811 25 159 23 322 21 756 22 500 22 500
Denmark 1 770 2 329 2 469 2 506 2 620 2 400 2 300
Sweden 6 733 7 433 7 930 8 237 7 649 6 800 6 410
Norway 3 576 3 562 4 473 5 223 4 297 3 900 3 700
Switzerland 3 842 3 613 4 002 4 539 4 955 4 940 5 000
Poland 1 289 1 674 1 863 1 798 1 025 1 000 1 000
Hungary 4 998 5 895 6 189 7 693 7 756 7 800 7 800
Czech Republic 2 491 2 473 2 155 1 728 1 460 1 380 1 330
Slovakia 1 212 1 263 1 510 1 262 990 1 645 1 780
Brazil 20 999 19 956 25 707 22 493 17 318 13 950 11 980
China 5 279 7 500 7 500 6 167 5 278 3 500 3 500
Hong Kong 910 1 066 1 292 1 248 1 147 850 900
Source: Euler Hermes Forecasts, national figures

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