Abatement,Care, and Compliance by Firms in Financial Distress |
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Authors: | Mary F Evans Scott M Gilpatric |
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Institution: | 1.The Robert Day School of Economics and Finance,Claremont McKenna College,Claremont,USA;2.Department of Economics and Center for Corporate Governance,University of Tennessee,Knoxville,USA |
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Abstract: | We examine precautionary behavior, specifically compliance with environmental regulations, pollution abatement, and care spending, by firms facing two sources of insolvency risk. If poor profit or a liability triggers insolvency, then the firm forgoes a profitable future. The behavioral implications of this survival motive vary across firms. Firms for whom the principal insolvency risk is liability-related now choose precaution above the level chosen by the solvent firm. For firms whose primary insolvency risk is profit-related, the survival motive reinforces incentives for care below the solvent benchmark arising from the familiar judgment-proof effect. We also characterize how insolvency risks affect incentives to conceal adverse events linked to these choices, such as an accident or a regulatory violation. An understanding of these incentives is particularly important during recessionary periods when firms struggle to survive the downturn. |
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