ISET Economist Blog

Troubled businesses: navigating the insolvency maze
Wednesday, 24 May, 2023

There will always be “winners” and “losers” in a market economy, which entails constant competition between companies for access to limited resources. The loser in this case is a company that is unable to pay its financial obligations on time and thus becomes insolvent. The future of such enterprises is typically determined by the applicable insolvency law, a revised version of which was adopted by the Parliament of Georgia in 2020 and went into effect in April 2021.

This law has traditionally been associated with a certain amount of conflict of interest. Primarily, this is the perspective of an insolvent business itself, which wishes to obtain the means of rehabilitation and continue operating. Creditors have an interest in recovering as much of their obligations as possible, whether through the insolvency of the company and the sale of its assets or by rehabilitating the company and renegotiating the debt. In this instance, the third party is the state, specifically the government. Given the democratic structure of the state, it is not unusual that the government's primary objective is to win the next election. To avoid losing the electorate, the government's objective is to preserve as many employment opportunities as feasible and prevent their loss through bankruptcy. The economy of the country is the fourth party. What is needed to maintain a thriving competitive environment, in particular, will be discussed in greater detail below.

The current law of Georgia “On rehabilitation and the collective satisfaction of creditors’ claims” gives an unequivocal and unconditional priority to the rehabilitation regime, which is expressed both at the level of stated goals and principles, as well as, taking into consideration a number of legal mechanisms encouraging rehabilitation (Meskhisvili et al. 2021, 116-117). The law requires the development of a rehabilitation plan (within nine months of the commencement of the process) and the creditors' approval of this plan, which may include partial debt cancellation. The plan should include provisions for the return of the debt, or a portion thereof, to the creditors and the restoration of the company's financial health, thereby restoring its solvency. However, the law does not specify how this should be carried out in detail.

There are two categories of factors contributing to the insolvency of the company. First, there are issues within the company, such as an ineffective business model, outdated technologies, or unsuccessful management. The remaining causes are of a general economic nature: recession, crisis, and natural disasters (such as a drought in the agricultural sector, which destroys the harvest and forces companies in this sector to cease operations).

Obviously, the rehabilitation plan cannot handle problems caused by macroeconomic factors, so this plan's primary objective is to address issues within the company. But, the question arises, why is it essential to rehabilitate and "evergreen" the company if it has fundamental problems that prevent it from competing in the market (Tett 2003)?

Maintaining companies artificially on the market based on a solely economic approach is entirely unjustifiable (with the exception of during times of crisis, which will be discussed below). It is evident that insolvent companies are inefficient, and their use of production factors hinders the efficient allocation of economic resources. (Rodano and Sette 2019). A company does not typically become insolvent in a single day. During the company's existence, structural inefficiency-related issues should have manifested repeatedly, and it should have been in the owner’s or upper management's best interest to eliminate them promptly. Regardless, if the case still results in insolvency, it is evident that the company could not or did not solve the aforementioned issues.

If, according to the law, the basis of the collective satisfaction of the creditors of insolvent companies is rehabilitation, then these companies have no incentive to develop and implement critical reforms until they are ordered to do so by the court. In accordance with the aforementioned Georgian law, a company that has reached insolvency may write off a portion of its debt and then, as part of its rehabilitation plan, implement the necessary reforms.

When viewed from this angle, it becomes clear that meeting the collective demands of creditors would be more effective if enterprises did not have the opportunity for rehabilitation. Obviously, not every company could resolve its issues and avoid insolvency, but at least some of the already rehabilitated companies could. 

It is essential to note that a loan granted to an insolvent company (regardless of whether it was given an opportunity to be rehabilitated or not) is automatically included on the bad loan list. During the company's rehabilitation, the creditor will likely receive more than it would have in the event of a sale of the company's assets; however, the loan will not be fully paid. An increase in the number of bad loans results in a rise in the cost of loans (the interest rate), which in turn inhibits the formation of new, “healthy” companies and the growth of existing ones. Consequently, if the objective of the law was not the universal rehabilitation of companies, it would be possible not only to assist companies in avoiding insolvency and recovery, but also to encourage the formation and growth of new “healthy” companies that would fill the gap left by the withdrawn companies (Blažková and Chmelíková 2022, 8-9). 

Within the current legal framework, the “zombification” of businesses is inevitable. “Zombie companies” are generally considered to be companies in financial distress when they report negative earnings for an extended period of time, have a substantial amount of debt, and have difficulty meeting their financial obligations, yet continue to operate despite having lost almost all of their capital (Mohrman and Stuerke 2014).

According to my opinion, a distinct strategy is necessary when insolvency is caused by macroeconomic factors. During the crisis, many companies that would have been profitable under normal market conditions may become insolvent. Consequently, both efficient and inefficient businesses may become insolvent during the crisis, and it is difficult to distinguish between them. In such a situation, the state's priority should be to save viable companies, but given the need for swift and resolute action in times of crisis, rescue mechanisms, be they rehabilitation or financial aid, will inevitably affect everyone, including inefficient companies (Stiglitz and Rashid 2020).

Some countries’ laws permit businesses to get loans from a bank in exchange for a state-issued financial guarantee. This indicates that the state will cover the loan if the company cannot repay it. This mechanism is fortunately not included in Georgian law, as its introduction would increase the risk of the creation of both zombie companies and zombie banks. And with this comes the “illness” of financially sound banks, since it makes no sense for them to lend to companies that will have to compete with zombie companies, which are kept on the market artificially by zombie banks (Hoshi 2006).

The objective of the Georgian insolvency law, i.e., to satisfy the creditors and to rehabilitate companies, is only justifiable during the crisis-recession period when it is necessary to keep as many viable firms on the market as possible to prevent the recession from becoming a depression because it is impossible to distinguish viable firms from non-viable ones. The main principle of legislation during periods of economic growth, and especially during periods of economic boom, should be based on the protection of the balance between creditors’ interests and the timely withdrawal of non-viable companies from the market (Papava 2017, 460), as this will help to maintain healthy competition and remove from the market zombie companies, the emergence of which is unavoidable during the crisis.


Blažková, Ivana, and Gabriela Chmelíková. 2022. “Zombie Firms During and After Crisis”. Journal of Risk and Financial Management, 15: 301. jrfm15070301.

Hoshi, Takeo. 2006. “Economics of the Living Dead.” The Japanese Economic Review, 57 (1): 30-49.

Meskhisvili K., Batlidze G., Amisulashvili N., Jorbenidze S. 2021. Basics of Insolvency Proceedings According to the Law of Georgia “On Rehabilitation and Collective Satisfaction of Creditors.” Tbilisi: Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ). (In Georgian.)

Mohrman, Mary Beth, and Pamela S. Stuerke. 2014. “Shareowners’ equity at Campbell Soup: How can equity be negative?” Accounting Education, 23 (4): 386-405.

Papava, Vladimer. 2017. “Retroeconomics – Moving from Dying to Brisk Economy.” Journal of Reviews on Global Economics, 6: 455-462. DOI: 

Rodano, Giacomo, and Enrico Sette. 2019. Zombie Firms in Italy: A Critical Assessment. Bank of Italy Occasional Paper, No. 483.

Stiglitz, Joseph E., and Rashid Hamid. 2020. “Which Economic Stimulus Works?” Project Syndicate, June 8.

Tett, Gilian. 2009. Saving the Sun: A Wall Street Gamble to Rescue Japan From Its Trillion-Dollar Meltdown. New York, NY: Harper Business.

* * *

DISCLAIMER: This blog article is made possible by the support of the American people through the United States Agency for International Development (USAID). The contents of this blog do not necessarily reflect the views of USAID or the United States Government.

The views and analysis in this article belong solely to the author(s) and do not necessarily reflect the views of the international School of Economics at TSU (ISET) or ISET Policty Institute.