From time to time, one reads news that the first signs of an economic recovery are likely to be felt in the US, or that the US economy has more power to regenerate itself than the European economy. This is undoubtedly true. Much of this regenerative power comes from the superior environment in the US with respect to corporate restructuring, particularly in comparison to Central Europe.

Broadly speaking, there are two ways in which reorganisations may be handled. First, there are in-court reorganisations, where companies file a plan for restructuring with a competent court, which then can grant a stay against creditors, effectively freezing creditor demands for a period of time. Second, there are out-of-court reorganisations, where a company and its advisers negotiate with banks and other creditors to agree to a reduction of debt, often in exchange for equity, known as debt-equity swaps.

In a debt-equity swap, resistance may come from both creditors, who stand to lose their guaranteed interest payments and security interests in exchange for shares, as well as shareholders of the company, who might not wish to see their ownership diluted.

Both kinds have much less chance of succeeding in Central Europe. Once a reorganisation reaches the courts in Central Europe, the case is usually fatal. There is very little chance that the company will re-emerge from the experience and survive. This is in contrast with the US, where the so-called Chapter 11 system gives companies an excellent chance of reemerging in a considerably stronger state. It helps that there is a large body of case law that provides guidance in this situation.

When a company files for Chapter 11 protection, this has a certain shock value that may encourage all parties to moderate their demands. Creditors may be more willing to accept debt-equity swaps; unions may become more amenable to shutting plants; staff may better understand the necessity for layoffs. Everyone realises that this is a last chance and that it is better to end up with a lesser interest in an ongoing concern than pennies on the dollar from a liquidation.

Of course, the big news item lately has been General Motors’ filing for Chapter 11. With more than $170 billion in liabilities, even the $20 billion of government funding already invested into GM (with $30 billion more to come) was not enough.

Without closing plants and dealerships, reducing debt and diminishing pension liabilities, additional funding would have gone to waste-plugging losses. Yet, there is life after death: there is every chance that GM will emerge from Chapter 11 in a leaner and meaner form.

Sadly, such restructurings are unlikely to be successful in Central Europe in the current legal environment. Courts are not adept at handling filings and legislation is not as supportive. Banks are seldom willing to consider debt-equity swaps, wanting to preserve their capital ratios. This does not bode well for the ability of Central European companies to restructure during the current crisis.

On the microeconomic level, this means that many Central European companies will slide into liquidation when they might otherwise have been saved. Companies will have to settle out of court, rather than resort to a court-administered system that virtually guarantees liquidation. But creditors in Europe have a huge amount of power to drive defaulting debtors into liquidation.

On the macroeconomic level, the current value-destructive bankruptcy regime in Central Europe will mean that the drop in economic growth, employment shrinkage and recessionary pain will be considerably more pronounced than necessary. Governments and legislators should take note.

*Les Nemethy is the CEO of Euro-Phoenix Financial Advisors Ltd. (www.europhoenix.com), a Central European corporate finance company focused on mergers and acquisitions.