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Bankruptcy and Efficiency

Paper Session

Saturday, Jan. 4, 2020 2:30 PM - 4:30 PM (PDT)

Manchester Grand Hyatt, Torrey Hills AB
Hosted By: Association of Financial Economists & American Finance Association
  • Chair: Kose John, New York University

A Typology of U.S. Corporate Bankruptcy

Katherine Waldock
Georgetown University


This paper constructs an empirical typology of large Chapter 11 debtors based on their objectives and levels of preparation at filing. Approximately two thirds of the firms in the sample set out to reorganize while the remaining third aim to sell substantially all of their assets, either as a going concern or in liquidation. Nearly 60% of firms enter bankruptcy already having negotiated with creditors and other constituencies. Excluding cases that involve significant litigation, firms that intend on reorganizing but ultimately liquidate represent only 5% of the total sample. Today's bankruptcy environment appears broadly consistent with one in which assets are liquid and verifiable, but also one in which firms are occasionally confronted by shocks and complexities that prevent out-of-court negotiations.

Dissecting Bankruptcy Frictions

Winston Wei Dou
University of Pennsylvania
Lucian A. Taylor
University of Pennsylvania
Wei Wang
Queen's University
Wenyu Wang
Indiana University


How efficient is corporate bankruptcy in the U.S.? Two economic frictions, asymmetric
information and conflicts of interest among creditors, can cause several inefficiencies:
excess liquidation, excess continuation, and excess delay. We quantify these inefficiencies
and their underlying causes using a structural estimation approach. Our data include 311
large bankruptcies from 1996 to 2014. We find that the bankruptcy process is quite inefficient.
Eliminating information asymmetries would increase average total payouts by 11%,
and eliminating conflicts of interest would increase them by an additional 29%. Without
these frictions, an extra 46% of cases would be resolved before going to court, and the remaining
court cases would be 64% shorter. With less delay, the direct and indirect costs
of bankruptcy would be much lower. In contrast, we find that inefficiencies from excess
liquidation and excess continuation are quite small.

Rent Extraction by Super-Priority Lenders

B. Espen Eckbo
Dartmouth College
Kai Li
University of British Columbia
Wei Wang
Queen's University


We present striking evidence of supra-competitive pricing of debtor-in-possession (DIP) loans obtained by large firms filing for Chapter 11 bankruptcy. Fully collateralized and with super-priority and strong covenants, these loans are effectively near-risk-free: Over the past three decades, all but one DIP loan were fully repaid (principal and interest). Nonetheless, the average loan spread is a whopping 600 basis points, which is 70% higher than the average spread on high-risk leveraged loans obtained by the same firms three years prior to Chapter 11 filing. Equally surprising, the rent extraction in DIP loans is no lower for new (non-prepetition) lenders - hedge funds or private equity funds in particular - which is when lender competition ought to be at its strongest. Junior claimants often contest DIP-loan terms in court - but apparently to little avail.

Going Bankrupt in China

Bo Li
Tsinghua University
Jacopo Ponticelli
Northwestern University


This paper investigates how legal reforms affect judicial outcomes and credit markets
by studying the introduction of courts specialized in bankruptcy in China. We
construct a new case-level data set on corporate bankruptcy filings and exploit the
staggered introduction of specialized courts across Chinese cities. Specialized courts
are run by bankruptcy professionals that are less likely to be under the influence
of local governments. We find that cases filed in cities that introduced specialized
courts are assigned to more experienced, better trained judges, and reach resolution
faster. Specialization increases the number of bankruptcy filings and the share of
state-owned firms filing for bankruptcy. Cities that introduced specialized courts
experienced a decrease in the share of "zombie" firms and an increase in average
product of capital of local firms. State-owned firms operating under specialized
courts experienced a decrease in the size of new bank loans, lower access to new
loans, and lower investment in physical capital. These results have important policy
implications in light of the recent increase in insolvency that followed China's debt
David C. Smith
University of Virginia
Sergei Davydenko
University of Toronto
Sandeep Dahiya
Georgetown University
Haitian Lu
Hong Kong Polytechnic University
JEL Classifications
  • G3 - Corporate Finance and Governance
  • K2 - Regulation and Business Law