Exposure to Superstar Firms and Financial Distress

Abstract

A small minority of highly successful firms (referred to as superstar firms) have captured large market shares and earned massive profits in recent decades. In this study, we examine whether superstar firms are associated with a greater likelihood of financial distress of firms that are exposed to them in product markets. Building on recent research that shows that superstar firms are associated with increasing aggregate markups, we identify superstars as firms with the highest markups in the industry and whose industry markup share is increasing over time. We then measure a focal firm’s overall product market exposure to superstars by employing product similarity scores. We document that firms with greater exposure to superstars in product markets are more likely to subsequently file for bankruptcy. We also shed light on the underlying channels through which superstar exposure is associated with bankruptcy and show that firms with the greater superstar exposure exhibit weaker financial performance and greater riskiness. Furthermore, we show that the association between superstar exposure and the likelihood of bankruptcy is stronger when superstar firms have greater market power. This association is also concentrated among focal firms that are less innovative, have lower credit financing flexibility, and those with less favorable product market attributes, as these firms are less likely to withstand the competitive pressure from superstar firms. Finally, we triangulate our primary evidence by providing suggestive evidence that sophisticated market participants account for the adverse effects of superstar exposure in their decision-making.

Keywords: Superstar Firms, Financial Distress, Bankruptcy, Financial Performance, Innovation, Product Market Exposure

JEL Classification: G33, M40, M41