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What Is Financial Distress?

Financial distress is a term used to a situation wherein a business entity is encountering some difficulty in fulfilling its financial obligations, particularly to its creditors. The degree of difficulty in meeting these obligations increase over time. When a business experiences financial distress, it has to take measures to keep it in check. Otherwise, the difficulties may result in eventual bankruptcy.

What can lead to financial distress? There are various factors that contribute to this situation. One big cause is when assets are not managed properly. For example, if funds are allocated for a projects which flop, financial distress can ensue. Another example would be wrongly estimating the budget for some projects. In both cases, the business have to make adjustments in order to alleviate financial distress.

When a company experiences financial distress, corporate restructuring is often a solution. Assets may be be valued and sold off, resulting in cash that can be used to pay off creditors. Another option for companies experiencing financial distress is to arrange debt restructuring. In this case, creditors must be amenable to the arrangement. In the second case, valuation can still be a useful tool in negotiating debt restructuring. The existing assets of the company can be valued and used to come reach repayment terms that are beneficial to both parties.

In some cases, even after the valuation and selling off of assets and the restructuring of debts, financial distress does not go away. This can be due to a mix of reasons; but whatever the reason is, if this happens, the company will have to resort to filing bankruptcy.

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