Working Paper: NBER ID: w15569
Authors: Viral V. Acharya; Yakov Amihud; Lubomir Litov
Abstract: We analyze the link between creditor rights and firms' investment policies, proposing that stronger creditor rights in bankruptcy reduce corporate risk-taking. In cross-country analysis, we find that stronger creditor rights induce greater propensity of firms to engage in diversifying acquisitions, which result in poorer operating and stock-market abnormal performance. In countries with strong creditor rights, firms also have lower cash flow risk and lower leverage, and there is greater propensity of firms with low-recovery assets to acquire targets with high-recovery assets. These relationships are strongest in countries where management is dismissed in reorganization, and are observed in time-series analysis around changes in creditor rights. Our results question the value of strong creditor rights as they have an adverse effect on firms by inhibiting management from undertaking risky investments.
Keywords: Creditor Rights; Corporate Risk; Investment Policy; Bankruptcy
JEL Codes: G31; G32; G33; G34
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Stronger creditor rights (G33) | Greater propensity for firms to engage in diversifying acquisitions (G34) |
| Greater propensity for firms to engage in diversifying acquisitions (G34) | Poorer operating performance (L19) |
| Greater propensity for firms to engage in diversifying acquisitions (G34) | Negative abnormal stock market returns (G17) |
| Stronger creditor rights (G33) | Lower cash flow risk and leverage (G32) |
| Stronger creditor rights (G33) | Higher likelihood to acquire targets with high recovery assets (G33) |
| Stronger creditor rights (G33) | Negative abnormal stock market returns at acquisition announcements (G14) |
| Stronger creditor rights (G33) | Lower return on assets (ROA) post-acquisition (G34) |
| Stronger creditor rights (G33) | Increased propensity to lend (G21) |
| Increased propensity to lend (G21) | Lower overall corporate debt levels (G32) |