Hostname: page-component-76fb5796d-dfsvx Total loading time: 0 Render date: 2024-04-25T13:36:40.393Z Has data issue: false hasContentIssue false
  • English
  • Français

Conflicts in Bankruptcy and the Sequence of Debt Issues

Published online by Cambridge University Press:  24 February 2016

S. Abraham (Avri) Ravid ,
Ronald Sverdlove ,
Arturo Bris  and
Gabriela Coiculescu
S. Abraham (Avri) Ravid*
Affiliation:
ravid@yu.edu, Yeshiva University, Sy Syms School of Business, New York, NY 10033
Ronald Sverdlove
Affiliation:
rsverdlo@njit.edu, New Jersey Institute of Technology, School of Management, Newark, NJ 07102
Arturo Bris
Affiliation:
arturo.bris@imd.ch, IMD, Lausanne CH-1001, Switzerland, and European Institute of Corporate Governance
Gabriela Coiculescu
Affiliation:
gabriela.coiculescu@yu.edu, Yeshiva University, Sy Syms School of Business, New York, NY 10033, and New York University.
*
*Corresponding author: ravid@yu.edu
Get access Rights & Permissions [Opens in a new window]

Abstract

This paper investigates the optimal sequencing of debt issues. Our theoretical model suggests that once firms issue debt with one level of seniority, they may have an incentive to alternate seniorities, because of violations of the priced absolute priority rule (APR). When we introduce explicit costs of class conflict, the model yields cases of alternating seniorities and other cases in which firms issue only one class of debt. The implications of the model are consistent with the observed regularities in a large database of debt issues. We test several other implications of our model as well.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 50 , Issue 6 , December 2015 , pp. 1353 - 1388
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2016 

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

American Bar Foundation. Commentaries on Model Indentures. Chicago, IL: American Bar Foundation (1971).Google Scholar
Bebchuk, L. A. “Ex Ante Costs of Violating Absolute Priority in Bankruptcy.” Journal of Finance, 57 (2002), 445–460.Google Scholar
Bebchuk, L. A., and Fried, J.. “The Uneasy Case for the Priority of Secured Claims in Bankruptcy.” Yale Law Journal, 105 (1996), 857–934.Google Scholar
Bebchuk, L. A., and Fried, J.. “A New Approach to Valuing Secured Claims in Bankruptcy.” Harvard Law Review, 114 (2001), 2386–2436.Google Scholar
Bergman, Y., and Callen, J.. “Opportunistic Underinvestment in Debt Renegotiation and Capital Structure.” Journal of Financial Economics, 29 (1991), 137–171.CrossRefGoogle Scholar
Berkovitch, E.; Israel, R.; and Zender, J. F.. “An Optimal Bankruptcy Law and Firm-Specific Investments.” European Economic Review, 41 (1997), 487–497.CrossRefGoogle Scholar
Berkovitch, E.; Israel, R.; and Zender, J. F.. “The Design of Bankruptcy Law: A Case for Management Bias in Bankruptcy Reorganizations.” Journal of Financial and Quantitative Analysis, 33 (1998), 441–464.Google Scholar
Berkovitch, E., and Han Kim, E.. “Financial Contracting and Leverage Induced Over- and Under-Investment Incentives.” Journal of Finance, 45 (1990), 765–794.Google Scholar
Bharath, S. T.; Dahiya, S.; Saunders, A.; Srinivasan, A.. “Lending Relationships and Loan Contract Terms.” Review of Financial Studies, 24 (2011), 1141–1203.Google Scholar
Bharath, S. T.; Panchapagesan, V.; and Werner, I. M.. “The Changing Nature of Chapter 11.” Working Paper, AFA 2010 Meetings, http://dx.doi.org/10.2139/ssrn.1102366 (2010).Google Scholar
Brander, J., and Lewis, T. R.. “Oligopoly and Financial Structure: The Limited Liability Effect.” American Economic Review, 76 (1986), 956–970.Google Scholar
Brick, I. E., and Fisher, L.. “Effects of Classifying Equity or Debt on the Value of the Firm under Tax Asymmetry.” Journal of Financial and Quantitative Analysis, 22 (1987), 383–399.Google Scholar
Bris, A.; Schwartz, A.; and Welch, I.. “Who Should Pay for Bankruptcy Costs?” Journal of Legal Studies, 34 (2005), 295–341.Google Scholar
Bris, A.; Welch, I.; and Zhu, N.. “The Costs of Bankruptcy: Chapter 7 Liquidation versus Chapter 11 Reorganization.” Journal of Finance, 61 (2006), 1253–1303.Google Scholar
Brockman, P.; Martin, X.; and Umlu, E.. “Executive Compensation and the Maturity Structure of Corporate Debt.” Journal of Finance, 65 (2010), 1123–1161.CrossRefGoogle Scholar
Brown, D. T. “Claimholder Incentive Conflicts in Reorganization: The Role of Bankruptcy Law.” Review of Financial Studies, 2 (1989), 109–123.Google Scholar
Carapeto, M. “Emerging Patterns in Deviations from Absolute Priority Rules in Bankruptcy.” Journal of Restructuring Finance, 2 (2005), 101–109.Google Scholar
Chang, T., and Schoar, A.. “Judge Specific Differences in Chapter 11 and Firm Outcomes.” Working Paper, AFA 2007 Meetings, http://users.nber.org/∼changt/judges130103.pdf (2013).CrossRefGoogle Scholar
Chava, S., and Roberts, M. R.. “How Does Financing Impact Investment? The Role of Debt Covenants.” Journal of Finance, 63 (2008), 2085–2121.CrossRefGoogle Scholar
Cornelli, F., and Felli, L.. “Ex-Ante Efficiency of Bankruptcy Procedures.” European Economic Review, 41 (1997), 475–485.CrossRefGoogle Scholar
Davydenko, S., and Strebulaev, I.. “Strategic Actions and Credit Spreads: An Empirical Investigation.” Journal of Finance, 72 (2007), 2633–2671.Google Scholar
Diamond, D. W. “Seniority and Maturity of Debt Contracts.” Journal of Financial Economics, 33 (1993), 341–368.Google Scholar
Drucker, S., and Puri, M.. “On Loan Sales, Loan Contracting, and Lending Relationships.” Review of Financial Studies, 22 (2009), 2835–2872.CrossRefGoogle Scholar
Eberhart, A. C.; Moore, W. T.; and Roenfeldt, R. L.. “Security Pricing and Deviations from the Absolute Priority Rule in Bankruptcy Proceedings.” Journal of Finance, 45 (1990), 1457–1468.Google Scholar
Eberhart, A. C., and Senbet, L. W.. “Absolute Priority Rule Violations and Risk Incentives for Financially Distressed Firms.” Financial Management, 22 (1993), 101–114.Google Scholar
Eberhart, A. C., and Sweeney, R. J.. “Does the Bond Market Predict Bankruptcy Settlements?” Journal of Finance, 47 (1992), 943–980.Google Scholar
Franks, J. R., and Torous, W. N.. “An Empirical Investigation of U.S. Firms in Reorganization.” Journal of Finance, 44 (1989), 747–768.CrossRefGoogle Scholar
Gilson, S. C.; Hotchkiss, E. S.; and Ruback, R. S.. “Valuation of Bankrupt Firms.” Review of Financial Studies, 13 (2000), 43–74.CrossRefGoogle Scholar
Gilson, S. C.; John, K.; and Lang, L. H. B.. “Troubled Debt Restructurings: An Empirical Study of Private Reorganization of Firms in Default.” Journal of Financial Economics, 27 (1990), 315–353.Google Scholar
Graham, J. R. “How Big Are the Tax Benefits of Debt?” Journal of Finance, 55 (2000), 1901–1941.Google Scholar
Greene, W. H. Econometric Analysis, 7th ed. Upper Saddle River, NJ: Prentice Hall (2011).Google Scholar
Hackbarth, D., and Mauer, D. C.. “Optimal Priority Structure, Capital Structure, and Investment.” Review of Financial Studies, 25 (2011), 747–796.Google Scholar
Hart, O., and Moore, J.. “Debt and Seniority: An Analysis of the Role of Hard Claims in Constraining Management.” American Economic Review, 85 (1995), 567–585.Google Scholar
Haugen, R. A., and Senbet, L. W.. “The Insignificance of Bankruptcy Costs to the Theory of Optimal Capital Structure.” Journal of Finance, 33 (1978), 383–393.CrossRefGoogle Scholar
Ivashina, V. “Asymmetric Information Effects on Loan Spreads.” Journal of Financial Economics, 92 (2009), 300–319.CrossRefGoogle Scholar
John, K.; Ravid, S. A.; and Reisel, N.. “The Notching Rule for Subordinated Debt and the Information Content of Debt Ratings.” Financial Management, 39 (2010), 489–513.Google Scholar
Lemmon, M.; Ma, Y.; and Tashjian, E.. “Survival of the Fittest? Financial and Economic Distress and Restructuring Outcomes in Chapter 11.” Working Paper, University of Utah (2009).Google Scholar
Longhofer, S. D. “Absolute Priority Rule Violations, Credit Rationing, and Efficiency.” Journal of Financial Intermediation, 6 (1997), 249–267.CrossRefGoogle Scholar
Longhofer, S. D., and Carlstrom, C. T.. “Absolute Priority Rule Violations in Bankruptcy.” Economic Review, Federal Reserve Bank of Cleveland, 31 (1995), 21–30.Google Scholar
Longhofer, S. D., and Santos, J. A. C.. “The Importance of Bank Seniority for Relationship Lending.” Journal of Financial Intermediation, 9 (2000), 57–89.Google Scholar
Maksimovic, V. “Capital Structure in Repeated Oligopolies.” Rand Journal of Economics, 19 (1988), 389–407.CrossRefGoogle Scholar
Park, C. “Monitoring and Structure of Debt Contracts.” Journal of Finance, 55 (2000), 2157–2195.Google Scholar
Pulvino, T., and Pidot, W.. “Do Bond Prices Reflect Absolute Priority Violations? Evidence from U.S. Airline Secured Bonds.” Working Paper, Northwestern University (1997).Google Scholar
Rajan, R., and Winton, A.. “Covenants and Collateral as Incentives to Monitor.” Journal of Finance, 50 (1995), 1113–1146.Google Scholar
Schuermann, T. “What Do We Know about Loss Given Default?” In Credit Risk: Models and Management, 2nd ed., Shimko, D. C., ed. London: Risk Books (2004).Google Scholar
Sufi, A. “Bank Lines of Credit in Corporate Finance: An Empirical Analysis.” Review of Financial Studies, 22 (2009), 1057–1088.Google Scholar
Warner, J. B. “Bankruptcy, Absolute Priority, and the Pricing of Risky Debt Claims.” Journal of Financial Economics, 4 (1977), 239–276.Google Scholar
Welch, I. “Why Is Bank Debt Senior? A Theory of Asymmetry and Claim Priority Based on Influence Costs.” Review of Financial Studies, 10 (1997), 1203–1236.Google Scholar
Winton, A. “Costly State Verification and Multiple Investors: The Role of Seniority.” Review of Financial Studies, 8 (1995), 91–123.Google Scholar