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Direct bankruptcy costs include fees paid to attorneys, accountants, investment bankers, and other professionals involved in bankruptcy proceedings in addition to other expenses directly tied to bankruptcy filing and administration (Taken from Gh, 2014). Direct Bankruptcy Costs affect the firm’s value negatively. As the probability of bankruptcy is increased, there is an increase in the cost of financing too (Taken from Gh, 2014).

As bankruptcy becomes more likely, stakeholders start abandoning the firm, as they fear that their claims will be stopped or renegotiated down if the firm files for bankruptcy. The result is a further deterioration in operating performance and shareholder value. These costs are known as indirect bankruptcy costs (Taken from Sautner & Vladimir, 2013).

As for the proper use of filing for bankruptcy to avoid actual or litigated related losses, bankruptcy does allow a firm to file an automatic stay (Taken from Jones Day, 2010). The automatic stay's fundamental purpose is to give the debtor a breathing spell from its creditors and relieve the debtor of the financial pressures that drove it into bankruptcy. The automatic stay also safeguards creditors' rights by preventing "different creditors from bringing different proceedings in different courts, thereby setting in motion a free-for-all in which opposing interests maneuver to capture the lion's share of the debtor's assets" (Taken from Jones Day, 2010). Additional benefits of the automatic stay are that it extends statutes of limitation to 30 days after termination of the stay and extends debtor deadlines to file claims or cure defaults until 60 days after petition (Taken from Jones Day, 2010).