Inside Debt and Corporate Failure
56 Pages Posted: 10 Nov 2013 Last revised: 28 Jun 2014
Date Written: November 7, 2013
This paper studies the impact of executive pensions and deferred compensation plans, collectively known as "inside debt'', on corporate failures. I find that, on average, a firm whose CEO holds a larger fraction of the firm's debt than equity (i.e., when the ratio of the CEO's inside debt holdings divided by the firm's debt is larger than the ratio of the CEO's equity holdings divided by the firm's market capitalization) has a hazard rate of failure that is 51% lower than a firm in which this relation is reversed. The evidence also indicates that CEOs with larger incentives provided by inside debt manage their firms more conservatively. Finally, I document that inside debt is associated with higher recovery rates for creditors in bankruptcy. This result is consistent with the hypothesis that inside debt incentivizes managers to preserve firm value in bankruptcy.
Keywords: Inside debt, pension, deferred compensation, corporate failure, bankruptcy
JEL Classification: G31, G32, G33, J32, J33, K22, M52
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