Companies shouldn’t fear bankruptcy because they might lose valuable workers. In fact, filing could stanch the outflow of employees over the long term, concludes a new paper by Jared Ellias, the Scott C. Collins Professor of Law at Harvard Law School.

Ellias, an expert in corporate bankruptcy law, says that he began his study hoping to better understand how a company’s workforce reacts when the organization files for Chapter 11 protections. To look at employee sentiment toward their companies before, during, and after bankruptcy, Ellias used machine learning to analyze public postings on Glassdoor, a website where workers review their employers. And to figure out how employees actually respond to a bankruptcy filing — whether they choose to stay at their jobs or leave — he examined data from LinkedIn.

Ellias’s findings challenge the conventional wisdom about the relationship between employees and troubled companies: although bankruptcy does seem to briefly be associated with heightened staff departures, it appears to be more a part of a longer-term trend that began months or years beforehand. Even more importantly, after Chapter 11 reorganization, companies no longer lose employees at an elevated rate relative to industry peers. The findings have important implications for companies that could benefit from bankruptcy but are afraid of how it could affect their workforce.

In an interview with Harvard Law Today, Ellias explains his paper’s major conclusions and how corporations may benefit from them.

Harvard Law Today: How does bankruptcy benefit a company?

Jared Ellias: Bankruptcy law does a lot to try to protect the assets of a corporation. For example, once you file for bankruptcy, a court can order all litigation against you to cease, and then it’s dealt with in the bankruptcy process.

HLT: What is the standard belief about how employees react to their company filing for bankruptcy?

Ellias: A lot of companies don’t file for bankruptcy because they think that their company is too fragile to survive a bankruptcy process. One of the sources of fragility is that the employees who are important to their success might leave. There has always been a fear that when companies choose to use the bankruptcy system, the result is that there is a stampede for the exits, and that fear is very powerful in motivating corporate decision-making. And it is a rational assumption that, when they see their companies in trouble, employees might head for the hills and try to find another employer.

What distinguishes a company that’s in bankruptcy from a company that’s not? Let’s say you’re General Motors and it’s 2007. Everyone who worked there knew that GM wasn’t doing very well, because it had been struggling for years. But when you have a bankruptcy filing, which is a public court process, the struggles of the company become front page news, and it becomes harder for people to delude themselves about just how badly the company is doing. Of course, there are other ways you could design the system. In some other countries, there are more informal bankruptcy systems that do not go through a formal, intensely public court process. But ours is public, and that may have an impact on the behavior of employees and others.

HLT: What did you hope to learn from your study?

Ellias: I wanted to know whether or not a bankruptcy filing changes the way that employees relate to and experience their jobs and corporations. There are three possibilities. The first possibility is that a company files for bankruptcy and workers run away. The second possibility is that workers are aware that the company has filed for bankruptcy, but are not really surprised by the news, so they continue to stick around. The third possibility is that when a company files for bankruptcy — because it is such a public process — maybe the company improves its internal messaging. Maybe it lays out its problems to its employees, tells them how they’re going to try to fix the issues, maybe even gives people retention bonuses to keep them working, because through bankruptcy they can get new financing. Maybe some of that money can be used to make people’s lives better. In other words, the final possibility is that it could actually make things better.

HLT: And what did you find?

Ellias: The Glassdoor data show that workers are less happy when their company isn’t doing well. What I also saw is that after a company files for bankruptcy, workers are far more likely in employee reviews to complain about how the company is financially distressed and that corporate culture is bad. That is consistent with what we fear would happen when a company files for bankruptcy. And after a bankruptcy filing, employees are about 18 percentage points more likely to mention that the company isn’t doing well as compared to the people who worked there and left reviews immediately prior to bankruptcy. Discussions about how corporate culture is bad go up about nine percent. So, it does seem that a bankruptcy filing is associated with the financial troubles of the business either becoming more visible or more salient to workers.

HLT: But did that actually lead people to leave?

Ellias: To figure that out, I used the LinkedIn data to look at the rate of departures from companies that are financially troubled, and I saw a few things. First, employees are more likely to leave companies that aren’t doing well in general — in other words, when the financial markets think a company is troubled. You can see this on a time series graph for companies that file for bankruptcy: the run-up in the departure rate starts a little bit more than a year prior to bankruptcy, and it just keeps going up.

In the month that a company files for bankruptcy, the departure rate is the highest. However, we have to place that increase in context of the fact that these companies were already seeing an elevated rate of departures; that starting more than a year prior to bankruptcy, these companies were already losing a historically high number of workers in any given month. Interestingly, we can also see that if you look at other companies in the same industry during the period of bankruptcy, they are getting smaller too.

So, we end up with this nuanced story, where it turns out to be the case that a bankruptcy filing is associated with a change in what reviewing employees choose to write about an employer in their reviews. And we do see evidence that a bankruptcy filing is associated with an elevated rate of departures. But the departures after a bankruptcy filing are probably best understood as a continuation of pre-existing trends.

I think what this study teaches us is that, at least for the companies that do reorganize through bankruptcy, it doesn’t appear that employee attrition is … a gigantic or unmanageable problem.

HLT: And what happens after bankruptcy?

Ellias: Surprisingly, after bankruptcy, Chapter 11 companies that reorganize look just like everybody else — they don’t lose workers at significantly higher rates than others in their industry. What we see in the data is that complaints about firms’ financial condition also drop, which also makes sense because the order from the bankruptcy court provides these companies with relief, which is then reflected in employee reviews. Companies do continue to shrink after bankruptcy, but so do their peers, on average, and the elevated rates of complaints about corporate culture and financial distress disappear from the employer reviews.

HLT: What implications do these findings have for companies considering bankruptcy?

Ellias: I think what this study teaches us is that, at least for the companies that do reorganize through bankruptcy, it doesn’t appear that employee attrition is, on average, a gigantic or unmanageable problem. It might teach us that companies that fear employee attrition are too cautious, because we also see from the study that once you get the benefit of a bankruptcy process, and you get an order from the court helping you with your problems, that seems to stabilize the company’s workforce. On the other hand, financially distressed companies appear to lose higher than normal levels of employees while they’re struggling, even before a bankruptcy filing.

To be clear, there are other sources of stress on a company considering bankruptcy, and there are other ways in which bankruptcy law might imperfectly protect a business, but to the extent that a board of directors or a management team is avoiding getting the benefit of bankruptcy law because they’re fearful that employees are going to leave — the study suggests that that fear is overstated.

HLT: Do you have any real-life examples of where a company could have benefited from this knowledge?

Ellias: A few years ago, Johnson & Johnson had a problem with litigation related to baby powder. It created a new subsidiary to try to get the benefit of bankruptcy protection without putting the whole company into bankruptcy, because they thought it’d be too costly for their whole business to go in. Maybe the eight or nine figures Johnson & Johnson spent on attorneys’ fees to try to avoid having to actually file for bankruptcy was unnecessary, because this study suggests they should be less afraid, at least insofar as they are worried about the impact of filing on the relationship between the company and its employees.

HLT: What other things make companies hesitate before filing for bankruptcy?

Ellias: A court can order a company that has a contract to continue doing business with a company in Chapter 11, but courts can’t force other suppliers to continue supplying, and they can’t force customers to continue buying. The fear is that these relationships, which are beyond the reach of legal tools to preserve, would all be in jeopardy during bankruptcy. An interesting empirical question is, to what extent do those things truly end up being a problem? Or are those things that savvy managers can find ways to deal with, much like how this paper suggests that a bankruptcy filing isn’t going to be overly traumatic for employees? I hope to address some of these other concerns in future projects.

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