The Information Value of Distress

93 Pages Posted: 16 Jun 2017 Last revised: 27 Jul 2022

See all articles by Christian Hilpert

Christian Hilpert

Sun Yat-sen University (SYSU) - Lingnan College

Stefan Hirth

Aarhus University; Danish Finance Institute

Alexander Szimayer

University of Hamburg - Faculty of Economics and Business Administration

Date Written: June 25, 2022

Abstract

We propose a novel framework for investigating learning dynamics on the debt market. Observing a firm’s survival of apparently distressed periods, the market eliminates asset value estimates that are too low to be consistent with the observed survival. Therefore, the firm’s cost of debt becomes lower for given financials. Relative to a perfect information setting, the firm strategically delays default to benefit from a subsequently lower cost of debt. Default comes as a surprise, as it reveals the currently worst possible asset value as correct. The surprise effect is mitigated for debt with higher performance sensitivity and for lower ex-ante information asymmetry.

Keywords: Asymmetric Information, Learning Dynamics, Strategic Interaction, Quantitative Debt Models

JEL Classification: G24, G33, D83

Suggested Citation

Hilpert, Christian and Hirth, Stefan and Szimayer, Alexander, The Information Value of Distress (June 25, 2022). Available at SSRN: https://ssrn.com/abstract=2986850 or http://dx.doi.org/10.2139/ssrn.2986850

Christian Hilpert (Contact Author)

Sun Yat-sen University (SYSU) - Lingnan College ( email )

GuangZhou, GuangDong
China

Stefan Hirth

Aarhus University ( email )

Fuglesangs Allé 4
Aarhus V, 8210
Denmark

HOME PAGE: http://hirth.dk

Danish Finance Institute ( email )

Alexander Szimayer

University of Hamburg - Faculty of Economics and Business Administration ( email )

Von-Melle-Park 5
Hamburg, 20146
Germany

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