I’ve always loved watching people recoil at the mention of the word “bankruptcy.” It’s almost instinctual—the moment they hear it, they turn away, as if it’s a disease to avoid at all costs. And that’s exactly what creates opportunities for those willing to look a little deeper. I remember when I was just starting out, working for a sovereign wealth fund. My boss once told me, “Making money isn’t that difficult. Most people just don’t look. If you look a little harder, you’ll find the gems hidden in the rocks.” That advice has stuck with me ever since, and nowhere has it been more true than in the world of bankruptcy investing.

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Many businesses end up in bankruptcy not because they are fundamentally flawed, but because they are overleveraged. They take on too much debt, sometimes during periods of rapid growth or in pursuit of an ambitious merger, and when the economic tide turns, they find themselves with cash flow that can’t keep up with debt payments. These are companies that, under the right conditions, can bounce back if given a second chance. It’s a matter of spotting the difference between a flawed business and a good one that’s just made a bad financial decision.

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Take American Airlines, for instance. In 2011, American Airlines filed for bankruptcy after accumulating billions in debt. The airline industry was struggling with rising fuel costs and intense competition, and American found itself unable to service its debt. But the company’s bankruptcy wasn’t because they lacked a solid business model—people were still flying, and American Airlines was a well-known brand with a loyal customer base. The issue was their financial structure—they had too much leverage and not enough flexibility to weather the downturn.

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American Airlines used bankruptcy as a tool to restructure. They renegotiated labor contracts, restructured their debt, and ultimately merged with US Airways to form one of the largest airlines in the world. By the time they emerged from bankruptcy in 2013, American Airlines was on much stronger footing. Today, their market cap stands in the tens of billions, a testament to the fact that bankruptcy can be a turning point rather than an end.

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Another classic example is General Motors. In 2009, GM filed for bankruptcy during the financial crisis. At that time, the auto industry was collapsing under the weight of plummeting sales, and GM, which had accumulated a significant amount of debt, simply couldn’t sustain itself. The problem wasn’t that people had stopped buying cars altogether or that GM lacked competitive products; it was that they were overleveraged and caught in an unprecedented economic downturn.

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The U.S. government stepped in to facilitate GM’s restructuring. GM shed unprofitable brands, restructured its debts, and emerged from bankruptcy as a leaner, more efficient company. Within a few years, GM was back to being one of the largest automakers globally. In fact, just two years after bankruptcy, GM posted profits of over $7 billion. It wasn’t the business itself that was flawed—it was the financial structure and external pressures that led to the bankruptcy. With a fresh start, GM was able to regain its position as a leader in the automotive industry.

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The key insight here is that not all bankruptcies are created equal. As an investor, it’s critical to understand why a company went bankrupt in the first place. Was it because they lost their competitive edge, or was it due to a temporary issue like overleveraging during a tough economic period? If the latter, there could be an opportunity to invest in a company that’s poised for a strong comeback.

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How to Spot a Good Business in Bankruptcy

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• Look for Strong Fundamentals: Just because a company has filed for bankruptcy doesn’t mean it lacks a solid business model. In the case of American Airlines, people were still flying, and their brand was still strong. The issue was their debt, not the demand for their services. Look for businesses that have a strong core product or service and loyal customers. If the underlying business is solid, bankruptcy can often serve as a useful reset button.

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• Evaluate the Reason for Bankruptcy: Understanding the reason behind the bankruptcy is crucial. If a company’s issues are primarily financial—like overleveraging or an economic downturn—rather than operational, there may be a path to recovery. General Motors was caught in a perfect storm during the financial crisis, but the company still had valuable brands, technology, and a demand for their cars.

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• Assess the Restructuring Plan: Not all restructurings are created equal. The best restructurings involve a realistic plan to reduce debt, cut costs, and refocus the company’s efforts. When GM emerged from bankruptcy, they had shed several underperforming brands and streamlined their operations. A solid restructuring plan can be a good indicator that the company has a viable path forward.

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• Consider the Industry: Some industries are more likely to recover than others. Airlines and automakers are cyclical industries that tend to bounce back after economic downturns. In contrast, companies in dying industries or those facing long-term secular decline may not be able to recover, even with a fresh start.

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Bankruptcy investing is about understanding the difference between a broken business and a business that’s just broken down. Companies like American Airlines, and GM, all faced enormous challenges, but they also had solid fundamentals and a clear path to recovery. They were overleveraged, yes, but they weren’t fundamentally flawed. And that’s where the opportunity lies—for those willing to look beyond the headlines and understand the real story.

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So the next time you hear that a company has filed for bankruptcy, take a step back. Look at why they ended up there. If it’s overleveraging, a temporary setback, or a broader economic downturn, you might just find that what looks like a failure is actually a second chance—a chance for the company to come back stronger, and for you to invest in that turnaround.