Bankruptcy Efficiency and Out-of-Court Restructurings

Abstract

The 2005 U.S. Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) creates an exogenous increase in the recovery value out of corporate bankruptcies. In a triple-differences framework, I show that a one-standard-deviation increase in BAPCPA exposure leads to 0.91 additional out-of-court restructurings per firm per year, so the bankruptcy efficiency effect ripples beyond firms that actually file for bankruptcy. Firms' threat to file for bankruptcy (and incur a common deadweight loss) becomes more credible with more efficient courts, which helps to overcome the holdout problem among uncoordinated creditors. However, enabling this threat may exacerbate ex ante risk-shifting, so the welfare effect is ambiguous. Q-regressions suggest that the positive effect (resolving holdout) likely prevails in the current U.S. context, particularly when a firm's creditors are sufficiently dispersed. I then structurally characterize the tradeoff between the risk-shifting problem and the coordination problem. The structural exercise suggests that increasing bankruptcy efficiency and/or facilitating out-of-court restructurings is not always welfare improving, especially in counterfactuals where the available risky project is substantially worse than the safe project, or when the bankruptcy efficiency starts at a low level. 

Keywords: Restructuring, Bargaining power, Bankruptcy, Coordination, Risk shifting

JEL Classification: G31, G32, G33