Ex Ante Costs of Violating Absolute Priority in Bankruptcy

23 Pages Posted: 20 Jul 2001 Last revised: 17 Sep 2001

See all articles by Lucian A. Bebchuk

Lucian A. Bebchuk

Harvard Law School; European Corporate Governance Institute (ECGI); National Bureau of Economic Research (NBER)

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Date Written: July 2001

Abstract

A basic question for the design of bankruptcy law concerns whether value should be divided in accordance with absolute priority. Research done in the past decade has suggested that deviations from absolute priority have beneficial ex ante effects. In contrast, this paper shows that ex post deviations from absolute priority also have negative effects on ex ante decisions taken by shareholders. Such deviations aggravate the moral hazard problem with respect to project choice - increasing the equityholders' incentive to favor risky projects - as well as with respect to borrowing and dividend decisions.

Suggested Citation

Bebchuk, Lucian A., Ex Ante Costs of Violating Absolute Priority in Bankruptcy (July 2001). NBER Working Paper No. w8388, Available at SSRN: https://ssrn.com/abstract=277298

Lucian A. Bebchuk (Contact Author)

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