Earnings Predictability,Bond Ratings,and Bond Yields

We examine the role that earnings predictability plays in establishing a firm’s cost of debt capital by measuring its influence on establishing a new issue’s bond rating. In addition, we also examine the effects of earnings predictability on the initial pricing of the firm’s debt. Using new corporate bond issues from the period 1990–2000, our results indicate that the degree of predictability of a firm’s earnings is positively associated with a firm’s bond rating. Moreover, earnings predictability is also documented to be negatively associated with the offering yield. Importantly, bond rating classification accuracy is improved when specific measures of a firm’s earnings predictability are added to a robust model.JEL Classification:     

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.     

Optimal capital structure: A multi-period programming model for use in financial planning

This paper describes a multi-period, chance constrained mathematical programming model to compute for each period, the firm's optimal debt to equity ratio and the optimal maturity distribution of its debt. The model assumes that the firm's objective is to maximize total value of the firm, and that the firm operates in a world of uncertainty, with corporate income taxes and bankruptcy costs. Finally, the actual coupon rate paid by the firm which is commensurate to the risk of default is endogenously determined by the model.     

Bankruptcy risk,costs and corporate diversification

This paper studies the impact of diversification on firms that file for Chapter 11 bankruptcy. Prior research suggests that diversification affects both the probability and costs of distress. Treating bankruptcy as a special case of distress, we find that diversification reduces the likelihood of bankruptcy and liquidation in Chapter 11, which is consistent with the coinsurance hypothesis. However, we observe higher bankruptcy costs as measured by time spent in Chapter 11 and inefficient segment investment for diversified firms. Our evidence is consistent with the idea that diversification provides benefits to managers in terms of job security rather than to firms. Our findings may help firms to make diversification decisions and creditors determine lending policies toward different forms of organizations.     

Secured and unsecured debt in creditor-friendly bankruptcy

This article develops a continuous-time asset pricing model for valuing corporate securities in the presence of both secured and unsecured debt. We consider a framework where creditors dominate the negotiation process. This is consistent with the increasing influence of creditors in bankruptcy. We show that the unsecured creditors are incentivized to liquidate the firm prematurely relative to the first-best threshold. However, if the firm’s liquidation value is very low, it should complement its secured debt with unsecured debt as a form of insurance to avoid early liquidations. Our results have important implications for the debt structure and the resolution of financial distress of modern firms with substantial intangible assets.     

Building legal indexes to explain recovery rates: An analysis of the French and English bankruptcy codes

The paper analyzes the characteristics of bankruptcy procedures that may impact on creditors’ recoveries. We propose 132 legal indexes accounting for the main functions of bankruptcy codes: namely, the accessibility of the procedures, their ability to disclose information, the protection of debtor’s assets, the coordination of the claimants and their decision power, and the sanction of management. The French procedures are more protective of the debtor’s assets and prioritize the coordination of claims. In England, liquidation procedures protect more secured claims, while unsecured creditors have more decision power under reorganization procedures. Our indexes are then used to explain recovery rates on a set of 833 bankrupt SMEs. Several bankruptcy rules are associated with higher recoveries: namely, accessibility of the procedure, protection of the debtor’s assets, protection of claims, and sanction of faulty management. On the contrary, information disclosure has negative impact on recoveries, probably due to the breach in confidentiality.     

Bankruptcy,absolute priority,and the pricing of risky debt claims

In practice, there are substantial deviations from the doctrine of ‘absolute priority’, which governs the rights of the firm's claimholders in the event of bankruptcy. To determine whether or not the possibility of such deviations is reflected in the prices of the firm's securities, this study examines the risk and return characteristics of financial claims against firms in court-supervised bankruptcy proceedings. Debt claims against bankrupt firms are indeed ‘risky’, exhibiting levels of systematic risk similar to that of common stocks in general. While some of the findings are anomalous, the data are generally consistent with the view that the capital market ‘properly’ prices risky debt claims to reflect both their risk characteristics and the possibility of departures from the doctrine of absolute priority.     

The effect of capital structure on a firm's liquidation decision

A firm's liquidation can impose costs on its customers, workers, and suppliers. An agency relationship between these individuals and the firm exists in that the liquidation decision controlled by the firm (as the agent) affects other individuals (the customers, workers, and suppliers as principals). The analysis in this paper suggests that capital structure can control the incentive/conflict problem of this relationship by serving as a pre-positioning or bonding mechanism. Appropriate selection of capital structure assures that incentives are aligned so that the firm implements the ex-ante value-maximizing liquidation policy.     

Last resort gambles, risky debt and liquidation policy

This paper develops a real option model in which the interaction between debt, liquidation policy and risky investments is studied. We consider a manager who owns the firm and faces the opportunity to invest in risky projects which may boost current profits at the cost of bankruptcy if they turn out to be unsuccessful. These investments are “last resort gambles” in the sense that, if successful, they save the company from insolvency, while, if unsuccessful, they make liquidation unavoidable. It is shown that last resort gambles delay liquidation. We study how the liquidation trigger and the last resort investment decisions are affected by the firm's capital structure.     

Voluntary firm restructuring: why do firms sell or liquidate their subsidiaries?

This paper examines why companies decide to divest a subsidiary in a corporate environment characterised by concentrated ownership, using a unique dataset of non-listed Belgian subsidiaries. The results of the binomial logit analyses are consistent with the idea that management will intervene in order to improve the controlling firm’s focus or when subsidiary performance imposes a burden on the group’s financial situation. Especially when blockholders hold more than 75% of the shares, these motives drive the divestiture decision. At lower levels of ownership concentration, these hypotheses cannot explain the higher divestiture likelihood, which supports the agency hypothesis. Once the divestment decision has been taken, the choice has to be made between a sale and liquidation. The logit analysis reveals that although selling a subsidiary seems the preferred option, liquidation is likely when the subsidiary is small, active in a sector with few competitors and when financial distress is eminent.     

Impact of foreign operations on reported effective tax rates: interplay of foreign taxes, U.S. taxes and U.S. GAAP

Effective tax rates can have a significant effect on a firm’s cash flows and reported earnings. As the operations of U.S. companies become increasingly global in scope, an important issue is how their foreign operations impact their effective tax rates, and, in turn, their reported earnings. This study describes how foreign taxes, U.S. taxes, and U.S. accounting principles interact to determine the impact of foreign operations on a firm’s effective tax rate. This analysis will assist users of financial statements in assessing the quality of earnings, making interfirm comparisons, evaluating the performance of management, judging the risks of additional tax assessments, and predicting future effective tax rates.     

Can corporate governance save distressed firms from bankruptcy? An empirical analysis

We examine financially distressed firms and document how governance characteristics affect (1) a firm’s ability to avoid bankruptcy and (2) the power of financial/accounting information to predict bankruptcy. Overall, our findings indicate that a distressed firm’s governance characteristics significantly affect its probability of bankruptcy. We find that smaller and more independent boards with a higher ratio of non-inside directors and with larger ownership stakes of inside directors are more effective at avoiding bankruptcy once distress is indicated. These results are consistent with the belief that these types of governance structures induce more effective monitoring. The results are also consistent with the view that the inclusion of governance characteristics enhances the power of financial accounting models in predicting bankruptcy.

Corporate portfolio management

Summary We solve the optimal portfolio problem in continuous time from the point of view of a corporation, acting on behalf of risk neutral shareholders. Our model fits for example the case of a commercial bank. Risk aversion is generated endogenously by financial frictions, and increases when the value of the firm’s assets decrease. We find a remarkably simple investment policy: invest a multiple of the firm’s equity into the risky asset, keep the rest as cash reserves, and distribute dividends when the value of the firm exceeds some threshold. As a consequence, the firm locally behaves as a Von Neumann-Morgenstern investor with constant relative risk aversion.We thank three anonymous referees for their comments.     

Transaction costs and competition among audit firms in local markets

We develop a measure to capture an audit firm's competitive position in a local audit market based on the transaction costs of changing audit firms included in DeAngelo's (1981) multi-period audit pricing model. Our competition measure reflects the size difference between the largest audit firm in a market specified by client industry at the city level and the other audit firms operating in that market. We find that audit fees of a client decrease as this size difference increases. This result suggests that smaller audit firms charge lower audit fees because of their competitive disadvantage to the local largest firm.     

Asset Allocation in Bankruptcy

This paper investigates the consequences of liquidation and reorganization on the allocation and subsequent utilization of assets in bankruptcy. Using the random assignment of judges to bankruptcy cases as a natural experiment that forces some firms into liquidation, we find that the long‐run utilization of assets of liquidated firms is lower relative to assets of reorganized firms. These effects are concentrated in thin markets with few potential users and in areas with low access to finance. These findings suggest that when search frictions are large, liquidation can lead to inefficient allocation of assets in bankruptcy.     

Economic Distress, Financial Distress, and Dynamic Liquidation

Many firms emerging from a debt restructuring remain highly leveraged, continue to invest little, perform poorly, and often reenter financial distress. The existing literature interprets these findings as inefficiencies arising from coordination problems among many creditors or an inefficient design of bankruptcy law. In contrast, this paper emphasizes that creditors lack the information that is needed to make quick and correct liquidation decisions. It can explain the long-term nature of financial distress solely as the result of dynamic learning strategies of creditors and suggests that it may be an unavoidable byproduct of an efficient resolution of financial distress.     

论破产清算企业的内部控制

企业内部控制无处不在,无论持续经营企业还是破产清算企业都是如此。本文以我国企业破产清算过程中暴露出的内控问题为背景,以新破产法和企业内部控制基本规范为依托,探讨了构建破产清算企业内部控制制度的必要性,总结了我国企业破产清算中所出现的问题,提出了基于广义和狭义角度的我国破产清算企业内控架构,分析了破产清算企业内部控制的主要难点及其对策。     

On the Efficiency of Bankruptcy Law: Empirical Evidence in Spain

The current economic crisis is showing one of the main problems that many companies in financial distress have to face, namely, the impact of bankruptcy law in relation to companies and firms. This paper aims to analyze the bankruptcy law ex‐ante efficiency when companies are in financial distress. To test it out, two research questions are submitted: (i) Is solvency, the criterion used in the Spanish law, the best one to assess the relative significance of the main indicators, which determine bankrupt firms? (ii) Is the Spanish bankruptcy law efficient according to solvency or are there better criteria? To answer them, a logistic regression model is conducted. The sample embraces 1,387 firms in Spain, the data being obtained from 12 Commercial Justice Courts complemented with financial information. The main conclusion is that the solvency criterion is adequate to classify bankrupt companies although currently Spanish Bankruptcy law is not as efficient as it could be. Additionally, the relevant companies' indicators, which explain the financial distress procedure, are presented. Copyright © 2013 INSOL International and John Wiley & Sons, Ltd     

Unusual operating cash flows and stock returns

The current financial reporting of cash flows from operations does not present individual sources of these cash flows, making it difficult for investors to assess a firm’s future performance. I hand-collect individual cash flows from unusual operations and examine their characteristics for predicting future cash flows. The results show that the unusual individual cash flow items contain a significant incremental predictive ability for future cash flows. Additional return tests show that stock prices fail to fully reflect their predictive value, suggesting that the current reporting practice may mislead investor perceptions of a firm’s cash generating ability and investors could benefit from a more explicit presentation of cash flows from operations.