Investment Opportunities and Bankruptcy Prediction
42 Pages Posted: 22 Nov 2006 Last revised: 13 Mar 2013
Date Written: 2007
A firm's mix of growth options and assets in place is an important determinant of its optimal default strategy. Our simple model shows that shareholders of a firm with valuable investment opportunities would be able/willing to wait longer before defaulting on their contractual debt obligations than shareholders of an otherwise identical firm without such opportunities. More importantly, we show empirically using a dataset of recent corporate bankruptcies that measures of investment opportunities are significantly related to bankruptcy. Augmenting existing bankruptcy prediction models by these measures improves their in-sample fit and out-of-sample forecasting ability.
Keywords: Growth options, Bankruptcy prediction, Default threhsold
JEL Classification: G33
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