Bank Equity Stakes in Borrowing Firms and Financial Distress

WP 96-1

Posted: 10 Sep 1996

See all articles by Mitchell Berlin

Mitchell Berlin

Federal Reserve Bank of Philadelphia - Research Department

Kose John

New York University (NYU) - Department of Finance

Anthony Saunders

New York University - Leonard N. Stern School of Business

Multiple version iconThere are 2 versions of this paper

Date Written: Undated

Abstract

We derive the optimal financial claim for a bank when the borrowing firm's uninformed stakeholders depend on the bank to establish whether the firm is distressed and whether concessions by stakeholders are necessary. The bank's financial claim is designed to ensure that it cannot collude with a healthy firm's owners to seek unnecessary concessions or to collude with a distressed firm's owners to claim that the firm is healthy. To prove that a request for concessions has not come from a healthy firm/bank coalition, the bank must hold either a very small or a very large equity stake when the firm enters distress. To prove that a distressed firm and the bank have not colluded to claim that the firm is healthy, the bank may need to hold equity under routine financial conditions. The views expressed here are those of the authors and do not necessarily represent the views of the Federal Reserve Bank of Philadelphia or the Federal Reserve System.

JEL Classification: G28, G32, G33, D82

Suggested Citation

Berlin, Mitchell and John, Kose and Saunders, Anthony, Bank Equity Stakes in Borrowing Firms and Financial Distress (Undated). WP 96-1. Available at SSRN: https://ssrn.com/abstract=7717

Mitchell Berlin (Contact Author)

Federal Reserve Bank of Philadelphia - Research Department ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
215-574-3822 (Phone)
215-574-4364 (Fax)

Kose John

New York University (NYU) - Department of Finance ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0337 (Phone)
212-995-4233 (Fax)

Anthony Saunders

New York University - Leonard N. Stern School of Business ( email )

44 West 4th Street
9-190, MEC
New York, NY 10012-1126
United States
212-998-0711 (Phone)
212-995-4220 (Fax)

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