Industry contagion in loan spreads

Spreads on new and renegotiated corporate loans are significantly higher when the loan originates (or is renegotiated) in the two years surrounding bankruptcy filings by industry rivals. This industry-specific contagion is particularly severe in the middle of industry bankruptcy waves. Furthermore, this contagion in loan spreads is mitigated in concentrated industries, consistent with the hypothesis and evidence in Lang and Stulz (1992) that bankruptcy filings in concentrated industries can have positive consequences for rivals (increased market share and/or power). There is also some evidence that contagion affects non-spread terms in loan contracts.     

Friends with bankruptcy protection benefits

We show information spillovers limit the effectiveness of targeted debt relief programs. We study individuals who learn about the likelihood of debt relief from the recent experiences of workplace peers filing for bankruptcy protection. Peers granted bankruptcy can discharge debts, while peers facing dismissal lose all protections. Exploiting the random assignment of judges to bankruptcy cases, we determine that individuals with a “dismissed peer” are significantly less likely to file for bankruptcy or enter foreclosure. We highlight a novel channel relating social networks to household finances and identify additional costs of granting individual debt relief imposed on lenders.     

Inter-firm linkages and the wealth effects of financial distress along the supply chain

Extant research examines the extent to which bankruptcy has intra-industry valuation consequences. This study broadens the investigation by examining the wealth effects of distress and bankruptcy filing for suppliers and customers of filing firms. On average, important wealth effects occur prior to and at bankruptcy filings and extend beyond industry competitors along the supply chain. Specifically, distress related to bankruptcy filings is associated with negative and significant stock price effects for suppliers. Supplier wealth effects are more negative when intra-industry contagion is more severe. We also investigate the importance of industry structure, specialized product nature, and leverage on supply chain effects.     

Bank/sovereign risk spillovers in the European debt crisis

This paper investigates contagion between bank and sovereign default risk in Europe over the period 2007–2012. We define contagion as excess correlation, i.e. correlation between banks and sovereigns over and above what is explained by common factors, using CDS spreads at the bank and at the sovereign level. Moreover, we investigate the determinants of contagion by analyzing bank-specific as well as country-specific variables and their interaction. Using the EBA’s disclosure of sovereign exposures of banks, we provide empirical evidence that three contagion channels are at work: a guarantee channel, an asset holdings channel and a collateral channel. We find that banks with a weak capital buffer, a weak funding structure and less traditional banking activities are particularly vulnerable to risk spillovers. At the country level, the debt ratio is the most important driver of contagion. Furthermore, the impact of government interventions on contagion depends on the type of intervention, with outright capital injections being the most effective measure in reducing spillover intensity.     

Bankruptcy,overlapping directors,and bank loan pricing

Using a sample of loan facilities borrowed by firms that share directors with bankrupt firms, this study investigates whether the overlapping directors are a transmission channel of the bankruptcy contagion effect in the bank loan market and, if so, what the underlying mechanism is. We find that firms are charged higher loan spreads in the period following the bankruptcy filing of a firm with a common director and that overlapping directors are a relevant channel for the bankruptcy contagion effect, in addition to other channels identified in literature. We also find that the negative contagion effect on loan pricing is most likely driven by the overlapping directors' reputation loss due to their involvement in bankruptcy events, and not by competing hypotheses, such as director distraction and director career concern/experience. Further analyses reveal that the adverse contagion impact on loan spreads is more pronounced when overlapping directors have greater influence over corporate policies or when their reputation is more seriously damaged. Meanwhile, the contagion effect is mitigated when interlocked firms have a higher-quality board. These results further support our evidence of the director reputation loss hypothesis. We strengthen the identification strategy to establish causality. In sum, our study identifies common directors as a channel of bankruptcy contagion effects on loan pricing and director reputation loss as an underlying mechanism.     

Assessing financial contagion in the interbank market: Maximum entropy versus observed interbank lending patterns

Interbank markets allow banks to cope with specific liquidity shocks. At the same time, they may represent a channel for contagion as a bank default may spread to other banks through interbank linkages. This paper analyses how contagion propagates within the Italian interbank market using a unique data set including actual bilateral exposures. Based on the availability of information on actual bilateral exposures for all Italian banks, the results obtained by assuming the maximum entropy are compared with those reflecting the observed structure of interbank claims. The comparison indicates that, under certain circumstances, depending on the structure of the interbank linkages, the recovery rates of interbank exposures and banks’ capitalisation, the maximum entropy approach overrates the scope for contagion.     

The determinants of bank loan recovery rates

Using Moody’s Ultimate Recovery Database, we estimate a model for bank loan recoveries using variables reflecting loan and borrower characteristics, industry and macroeconomic conditions, and several recovery process variables. We find that loan characteristics are more significant determinants of recovery rates than are borrower characteristics prior to default. Industry and macroeconomic conditions are relevant, as are prepackaged bankruptcy arrangements. We examine whether a commonly used proxy for recovery rates, the 30-day post-default trading price of the loan, represents an efficient estimate of actual recoveries and find that such a proxy is biased and inefficient.     

Automatic bankruptcy auctions and fire-sales

We test for fire-sale tendencies in automatic bankruptcy auctions. We find evidence consistent with fire-sale discounts when the auction leads to piecemeal liquidation, but not when the bankrupt firm is acquired as a going concern. Neither industry-wide distress nor the industry affiliation of the buyer affect prices in going-concern sales. Bids are often structured as leveraged buyouts, which relaxes liquidity constraints and reduces bidder underinvestment incentives in the presence of debt overhang. Prices in “prepack” auctions (sales agreements negotiated prior to bankruptcy filing) are on average lower than for in-auction going-concern sales, suggesting that prepacks may help preempt excessive liquidation when the auction is expected to be illiquid. Prepack targets have a greater industry-adjusted probability of refiling for bankruptcy, indicating that liquidation preemption is a risky strategy.     

Distressed Debt Restructuring in the Presence of Credit Default Swaps

The availability of credit insurance via credit default swaps has been closely associated with the emergence of empty creditors. We empirically investigate this issue by looking at the debt restructurings (distressed exchanges and bankruptcy filings) of rated, nonfinancial U.S. companies over the period January 2007–June 2011. Using different proxies for the existence of insured creditors, we do not find evidence that the access to credit insurance favors bankruptcy over a debt workout. However, we document higher recovery prices following a distressed exchange in firms where empty creditors are more likely to emerge.     

Creditor recovery: The macroeconomic dependence of industry equilibrium

This paper reconciles the state of the economy with industry conditions in driving asset liquidation values and, therefore, recovery rates on defaulted debt securities. Evidence to date downplays the economywide effect in favor of industry and debt characteristic explanations. This paper shows that macroeconomic effects are important but operate differentially at the industry level. Industries whose sales growth is more correlated with GDP growth recover less during recessions. And industries that are more dependent on external finance recover less when the stock market falls. These findings expose how economywide shocks are transmitted to industry downturns, providing a framework for the role of aggregate risk in recovery risk and for macroeconomic stress testing.     

Does industry-wide distress affect defaulted firms? Evidence from creditor recoveries

Using data on defaulted firms in the United States over the period 1982–1999, we show that creditors of defaulted firms recover significantly lower amounts in present-value terms when the industry of defaulted firms is in distress. We investigate whether this is purely an economic-downturn effect or also a fire-sales effect along the lines of Shleifer and Vishny [1992. Liquidation values and debt capacity: a market equilibrium approach. Journal of Finance 47, 1343–1366]. We find the fire-sales effect to be also at work: Creditors recover less if the industry is in distress and non-defaulted firms in the industry are illiquid, particularly if the industry is characterized by assets that are specific, that is, not easily redeployable by other industries, and if the debt is collateralized by such specific assets. The interaction effect of industry-level distress and asset-specificity is strongest for senior unsecured creditors, is economically significant, and robust to contract-specific, firm-specific, macroeconomic, and bond-market supply effects. We also document that defaulted firms in distressed industries are more likely to emerge as restructured firms than to be acquired or liquidated, and spend longer time in bankruptcy.     

Debt and managerial rents in a real-options model of the firm

We present a theory of capital investment and debt and equity financing in a real-options model of a public corporation. The theory assumes that managers maximize the present value of their future compensation (managerial rents), subject to constraints imposed by outside shareholders’ property rights to the firm's assets. Absent bankruptcy costs, managers follow an optimal debt policy that generates efficient investment and disinvestment. We show how bankruptcy costs can distort both investment and disinvestment. We also show how managers’ personal wealth constraints can lead to delayed investment and increased reliance on debt financing. Changes in cash flow can cause changes in investment by tightening or loosening the wealth constraints. Firms with weaker investor protection adopt higher debt levels.     

OPERATING LEVERAGE AND UNDERINVESTMENT

Using a contingent claims model, we examine the impacts of both operating leverage and financial leverage on a firm's investment decisions in the context of capacity expansion. Our model shows that quasi‐fixed operating costs could significantly mitigate the underinvestment problem for debt‐financed firms. The existing debt induces equity holders to delay equity‐financed expansion because the expanded earnings base will also benefit the debt holders by lowering the bankruptcy risk. The operating costs decrease this type of wealth transfer from equity holders to debt holders by magnifying the bankruptcy risk of the existing debt upon investment. By applying the Cox proportional hazard model on a large sample of publicly traded U.S. firms over 1966–2016, we offer empirical support for the theoretical predictions. The results are robust to various measures of operating leverage.     

DOES FINANCIAL FLEXIBILITY REDUCE INVESTMENT DISTORTIONS?

The average U.S. firm has less leverage than one would expect based on the trade‐off between tax shields and bankruptcy costs. We focus on firms’ financial flexibility and examine whether firms preserve debt capacity to reduce investment distortions in the future. We find that firms with high unused debt capacity invest more in future years than do firms with low unused debt capacity. Furthermore, firms that are reluctant to borrow in unconstrained periods are more likely to issue debt in periods in which access to capital markets is more constrained.     

Employee well-being,firm leverage,and bankruptcy risk

Employees of liquidating firms are likely to lose income and non-pecuniary benefits of working for the firm, which makes bankruptcy costly for employees. This paper examines whether firms take these costs into account when deciding on the optimal amount of leverage. We find that firms with leading track records in employee well-being significantly reduce the probability of bankruptcy by operating with lower debt ratios. Moreover, we observe that firms with better employee track records have better credit ratings, even when we control for differences in firm leverage.     

Determinants of Bank Debt in a Continental Financial System: Evidence from Spanish Companies

We test hypotheses about the structure of corporate debt ownership and the use of bank debt by firms in a civil‐law country, Spain. We focus on bank debt effects in the presence of information asymmetries and agency costs, and on efficient versus inefficient firm liquidation. We find that the relation between growth opportunities and bank financing is not as strong as the one found in common‐law countries, that there is a positive relation between firm size and the proportion of bank debt used, and that firms closer to bankruptcy and highly leveraged are more likely to use bank debt.     

中国公司产品竞争战略中的融资决策行为与行业特征变量关系检验

首先运用非参数检验法中的Wilcoxon秩检验方法,研究融资决策行为与行业成长机会的关系;其次,通过分析各行业资产负债率与行业销售利润率、行业销售收入之间的Pearson相关关系,检验行业生命周期与融资决策行为的关系.检验结果显示,随着行业景气的上升,行业内公司选择了更多的债务融资.同时,市场竞争激烈的行业以及处于衰退期的行业对债务融资更具依赖性,行业产出水平与债务融资正相关,行业破产公司比例与债务融资负相关.     

The incentive to give incentives: On the relative seniority of debt claims and managerial compensation

We show that the relative seniority of debt and managerial compensation has important implications for the design of remuneration contracts. Whereas the traditional literature assumes that debt is senior to remuneration, there are in reality many cases in which remuneration contracts are de facto senior to debt claims in financially distressed firms and in workouts. We theoretically show that risky debt changes the incentive to provide the manager with performance-related incentives (a “contract substitution” effect). In other words, the relative degree of seniority of managers’ claims and creditors’ claims in case a bankruptcy procedure starts is crucial to determine the optimal incentive contract ex-ante. If managerial compensation is more senior than debt, higher leverage leads to lower power incentive schemes (lower bonuses and option grants) and a higher base salary. In contrast, when compensation is junior, we expect more emphasis on pay-for-performance incentives in highly-levered firms.     

Orange County Bankruptcy: Financial Contagion in the Municipal Bond and Bank Equity Markets

We examine the spillover wealth effects of the Orange County, California bankruptcy announcement in December 1994 on municipal bonds, municipal bond funds, and bank stocks. This bankruptcy is prominent because of unprecedented losses and because it was caused by a highly leveraged derivatives strategy rather than a shortage of tax revenues and excess spending. We find contagion in the bond market with significantly negative abnormal returns for municipal bond funds without direct exposure to Orange County and for non‐Orange County municipal bonds. In addition, our findings suggest the contagion spills over to the common stocks of investment and commercial banks that deal in or use derivatives; however, the equities of banks unexposed to derivatives are not affected.