Do Rights Offerings Reduce Bargaining Complexity in Chapter 11?

Abstract

This paper investigates the role of rights offerings in U.S. Chapter 11 reorganizations as a new market-based mechanism for mitigating bargaining frictions. Using hand-collected data, I document three novel facts: (i) in the past two decades, rights offerings financed 35% of bankruptcies, (ii) they are typically proposed and backstopped by hedge funds, and (iii) their occurrence is highly correlated with stock market performance. In an instrumental variable setting, I find that compared with other sources of financing, rights offerings lead to higher recovery rates, shorter time spent in Chapter 11, and lower bankruptcy refiling rates. They also allow firms to access new capital without resorting to asset liquidations, which are value-reducing. My findings suggest that by alleviating key bargaining frictions in large and complex bankruptcy cases, rights offerings may improve the efficiency of resource allocation in the economy.

Keywords: bankruptcy exit financing, hedge funds, misvaluation, recovery rates, recidivism

JEL Classification: G33, G32, G24