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ABSTRACT
In April of 2000, the Japanese Diet instituted two changes to their bankruptcy code in an attempt to address perceived weaknesses. The first change was the elimination of Composition, the most popular form of bankruptcy reorganization at that time. The second was the introduction of the Civil Rehabilitation Act. One of the primary goals of the introduction of Rehabilitation was to induce managers of distressed firms to file sooner when the firm's financial problems were less difficult to address. This paper examines the impact of the Civil Rehabilitation Act and finds that after the Act was implemented larger firms make better candidates for reorganization but smaller firms are in poorer financial condition and are hence, poorer candidates for reorganization.
Keywords: Bankruptcy, Civil Rehabilitation, Corporate Reorganization, Composition, Japan
INTRODUCTION
The failure of non- viable firms, though unpleasant for the parties involved, is critical to a country's long-term industrial growth and health. Without failure, less efficient firms continue to employ resources that would be better allocated to more productive end uses and create a drag on the economy as a whole. Schumpeter (1942) refers to the positive aspects of failure as "creative destruction." A country's bankruptcy system is therefore a critical component in the way an economy allocates resources. The process is a dynamic one in which troubled firms sell off assets in an attempt to stave of default while the particular asset sold can either enhance or diminish the firm's long term economic viability.
In an attempt to address the economic malaise of the country's "post-bubble" economy, the Japanese Diet adopted the Civil Rehabilitation Act ("Rehabilitation") in December 1999. Rehabilitation replaced the Composition Act ("Composition) with the intention of addressing some of the perceived weaknesses of the old bankruptcy system.1 Prior to the introduction of Rehabilitation, the Japanese bankruptcy system consisted of three forms of bankruptcy reorganization, Composition, Corporate Reorganization ("Reorganization") and Corporate Arrangement ("Arrangement").2 The three reorganization methods each had unique characteristics and were highly dissimilar. In particular, Composition differed dramatically from Reorganization. Composition was intended for small firms while Reorganization was intended for large firms. Xu (2004) finds that Composition filings were rare for large firms for the following reasons: (i) firms filing under Composition had to submit a reorganization plan...