A nonlinear wealth transfer from shareholders to creditors around Chapter 11 filing

Yuanzhi Li

Journal of Financial Economics, 2013, vol. 107, issue 1, 183-198

Abstract: Past literature has assumed that negative stock returns around Chapter 11 filing are solely due to new adverse information about firm value. This paper argues that there is also a nonlinear wealth transfer from shareholders to creditors causing shareholder loss. The magnitude of the wealth transfer can be quantified in a setting where equity is a call option on firm assets as in the Merton (1974) model. The wealth transfer originates from maturity shortening of the call option as a result of Chapter 11 filing. I present a parsimonious model to explain why Chapter 11 can be voluntarily filed by managers acting in the interest of shareholders with the existence of the wealth transfer. The model-predicted stock return has comparable magnitude as observed stock returns around filing, and explains the cross-sectional variation of the latter.

Keywords: Chapter 11 filing; Wealth transfer (search for similar items in EconPapers)
JEL-codes: G33 (search for similar items in EconPapers)
Date: 2013
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:107:y:2013:i:1:p:183-198

DOI: 10.1016/j.jfineco.2012.08.008

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