Giving Startup Founders A Second Chance

Of the nine out of ten startups that will not make it beyond five years, some will face bankruptcy. In Luxembourg, bankrupt founders are prevented from launching a new business. An eagerly awaited draft reform proposes a second chance for entrepreneurs. But does it go far enough?

When, in 1899, Henry Ford’s Detroit Automobile Company was unable to repay his investors, he filed for bankruptcy. He faced a second bankruptcy before mastering the right market fit with the Ford Motor Company. Today, Ford is considered the second most valuable automotive company worldwide. Had Ford established his business in Luxembourg, however, he would not have had a second chance. 

Under current law, entrepreneurs who have filed for bankruptcy are not allowed a second business permit. A draft reform, begun in 2013, seeks to create a second chance in cases where bad luck and mismanagement (such as the loss of a major client, a series of client bankruptcies, health problems of the manager or unintentional management errors) led to bankruptcy in good faith. A second chance commission would determine if this criteria is met. The ministry may also use its discretion to allow a founder a second chance if debts to the State do not exceed 1% unpaid VAT, 1% unpaid taxes, 4 months social security contributions.

1,050 bankruptcies in 2022

Luxembourg recorded 1,050 bankruptcies in 2022, down from 1,160 in 2021, with the most impacted sectors including hospitality, construction, retail, and holding companies, according to national statistics body Statec. Silicon’s examination of monthly bankruptcy notices at the Trade and Company Register identified eight startups (defined as a company or project undertaken by an entrepreneur to research, develop and validate an innovative and scalable business model) in 2021 and seven in 2022. Among the best-known names are digital voucher scheme Giftable (founded in 2020, and closed in 2022), regtech Stampify (founded in 2018, and closed in 2021).

“Too timid”

The Luxembourg Chamber of Commerce, the public body responsible for supporting business activities in the grand duchy, writes in its feedback, among other things, that the definition of bad luck “should not be limited to cases of a substantial drop in turnover, which is too restrictive; it should be possible to include other hypotheses, such as a substantial reduction in one’s financial capacities following an unfortunate situation (e.g. a contractual relationship with a co-contractor who cannot fulfil his financial obligations towards the entrepreneur, whatever the reasons; apart, of course, from any case of conspiracy to organise one’s insolvency). It supports the creation of a second chance commission “only if it aims to support the entrepreneur in his choice to restart an activity after bankruptcy.” This could be done by advising the bankrupt founder with support or training courses, for instance. 

The Luxembourg Startups Association (LSA), a federation of startup founders made by startup founders, goes even further. It recommends a revision of the bad luck definition to “take into account the risk linked to innovation and innovative projects.” This definition should include “the famous ‘product-market-fit’ that every start-up seeks and that many will not find.” 

It also wants a substantial revision of the exclusion criteria if debts exceed the thresholds of 1% unpaid VAT, 1% unpaid taxes, and/or 4 months’ social security contributions. As it writes in its manifesto: “Luxembourg wants entrepreneurs, but does not accept that they may experience one failure.”

The right to fail

Philippe Linster, CEO of the House of Startups, an incubator and accelerator for startups launched by the Chamber of Commerce, welcomed the LSA’s additions.

“The Second Chance is a very delicate law in the sense that you want to give a second chance to people who earned it. But you also want to avoid that you misuse the trust of the customers of the company,” he says, adding: “In that sense, Europe is also very different from the US, where they celebrate failure or even bankruptcy or liquidation. You have learned something and then you qualify even more to be an entrepreneur.”

Linster stresses too that failing to find a market fit for a startup is not the same as for a bakery. A baker opens their baker in an area with customers, however, “When you have a startup and a new product, […] there’s no certainty you will find any clients and sometimes it doesn’t work out.” Linster continues: “It’s part of the business. Some of them will fail and you will never avoid this but if this has implications on setting up a new business, then of course, it’s important to implement this in the new law to have a second chance.”

Find out more and read the view from a lawyer about the bankruptcy law reform.

Bankruptcy Reform: “Sometimes, With A Good Valuation You Can Limit Damages & Debt”