The Interaction of Solvency with Liquidity and its Association with Bankruptcy Emergence
37 Pages Posted: 20 Nov 1999
Date Written: October 6, 1999
Prior research has shown that the accounting information available in the year just prior to filing bankruptcy is associated with the likelihood of filing for Chapter 11 protection. This information, however, is more predictive of bankruptcy for stressed firms than for non-stressed firms. We extend this line of research by showing that in addition to being associated with bankruptcy, the accounting information available in the year just prior to a firm filing for bankruptcy protection is also associated with whether or not a firm will emerge from Chapter 11 bankruptcy. We classify stress as either long-term stress (solvency risk) and short-term stress (liquidity risk) and predict that firms that exhibit low solvency risk and high liquidity risk are most likely to emerge from bankruptcy. Firms that exhibit high solvency risk and high liquidity risk are predicted to be least likely to emerge from bankruptcy. Cross-sectionally, our results generally support these predictions, but our findings differ across large and small firms.
JEL Classification: M41, G33
Suggested Citation: Suggested Citation