Bankruptcy Decisionmaking: An Empirical Study of Continuation Bias in Small Business Bankruptcies
61 Pages Posted: 28 Oct 2003
Date Written: January 25, 2006
Over half of all small businesses reorganizing under Chapter 11 of the U.S. Bankruptcy Code are ultimately liquidated. Little is known about this shutdown decision and about the factors that increase or reduce the amount of time a firm spends in bankruptcy. It is widely suspected, however, that the Chapter 11 process exhibits a "continuation bias," allowing non-viable firms to linger under the protection of the court. This paper tests for the presence of continuation bias in the docket of a typical bankruptcy court over the course of a calendar year. A variety of tests are employed, including the extent to which entrenched managers dominate the bankruptcy process, the accuracy and speed with which viable and nonviable firms are distinguished, and the extent to which the hazard of shutdown is consistent with the implications of a simple, formal model of the optimal Chapter 11 process. Contrary to conventional wisdom, the paper finds that continuation bias is either absent or empirically unimportant.
Keywords: Bankruptcy, Corporate Reorganization, Optimal Timing, Judicial Decisionmaking
JEL Classification: K20, K40, G33, L20, D92
Suggested Citation: Suggested Citation