Hostname: page-component-78c5997874-v9fdk Total loading time: 0 Render date: 2024-11-15T18:36:31.443Z Has data issue: false hasContentIssue false
  • English
  • Français

Financial Costs of Judicial Inexperience: Evidence From Corporate Bankruptcies

Published online by Cambridge University Press:  11 July 2022

Benjamin Iverson Open the ORCID record for Benjamin Iverson [Opens in a new window] ,
Joshua Madsen ,
Wei Wang  and
Qiping Xu
Benjamin Iverson*
Affiliation:
Brigham Young University Marriott School of Business
Joshua Madsen
Affiliation:
University of Minnesota Carlson School of Management jmmadsen@umn.edu
Wei Wang
Affiliation:
Queen’s University Smith School of Business wwang@queensu.ca
Qiping Xu
Affiliation:
University of Illinois Gies College of Business qipingxu@illinois.edu
*
biverson@byu.edu (corresponding author)
Rights & Permissions [Opens in a new window]

Abstract

Core share and HTML view are not available for this content. However, as you have access to this content, a full PDF is available via the ‘Save PDF’ action button.

Exploiting the random assignment of judges to corporate bankruptcy filings, we estimate financial costs of judicial inexperience. Despite new judges’ prior legal experience, formal education, and rigorous hiring process, their public Chapter 11 cases spend 19% more time in bankruptcy, realize 31% higher legal and professional fees, and 21% lower creditor recovery rates. Examining possible mechanisms, we find that new judges take longer to rule on motions and cases assigned to these judges file more plans of reorganization. Conservative estimates suggest that minor policy adjustments could increase creditor recoveries by approximately $16.8 billion for the public firms in our sample.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 58 , Issue 3 , May 2023 , pp. 1111 - 1143
Copyright
© The Author(s), 2022. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

We thank Judge Shelley Chapman (United States Bankruptcy Court, Southern District of New York), Judge William Fisher (United States Bankruptcy Court, District of Minnesota), and Judge Brendan Shannon (United States Bankruptcy Court, District of Delaware) for institutional knowledge regarding judge assignments and rulings. We are grateful for comments from Shai Bernstein, Dennis Campbell, Tom Chang, Ed deHaan, Paul Healy, Allen Huang, Michael Iselin, Mathias Kronlund, Pedro Matos, Karsten Mueller, Tjomme Rusticus, Bob Simons, Manpreet Singh, Suraj Srinivasan, Veikko Thiele, Paul Vaaler, Charlie Wang, and Jan Zabojnik as well as conference and seminar participants at the University of Notre Dame, Harvard University, Queen’s University, the University of Minnesota Carlson School of Management, the University of Minnesota Law School, the University of Utah, the University of Texas – Dallas, the 2018 WFA, the 2018 Wabash River Finance Conference, the 2018 FMA, the 2018 Conference on Empirical Legal Studies, the 2018 EFA, the 2019 AFA, and the 2019 FIRS. We thank Carmen Chen, Roi Levy, Kayvn Mihan, Mitch Schinbein, Vania Shi, Erin Shin, Josh Stoddard, and Shimei Zhou for excellent research assistance. All errors are our own.

References

Almeida, H., and Philippon, T.. “The Risk-Adjusted Cost of Financial Distress.” Journal of Finance, 62 (2007), 2557–2586.CrossRefGoogle Scholar
Andrade, G., and Kaplan, S. N.. “How Costly is Financial (Not Economic) Distress? Evidence from Highly Leveraged Transactions that Became Distressed.” Journal of Finance, 53 (1998), 1443–1493.CrossRefGoogle Scholar
Arrow, K. J. “The Economic Implications of Learning by Doing.” Review of Economic Studies, 29 (1962), 155–173.CrossRefGoogle Scholar
Ashenfelter, O.; Eisenberg, T.; and Schwab, S.. “Politics and the Judiciary: The Influence of Judicial Background on Case Outcomes.” Journal of Legal Studies, 24 (1995), 257–281.CrossRefGoogle Scholar
Badolato, P. G.; Donelson, D. C.; and Ege, M.. “Audit Committee Financial Expertise and Earnings Management: The Role of Status.” Journal of Accounting and Economics, 58 (2014), 208–230. 2013 Conference Issue.CrossRefGoogle Scholar
Becker, G. S. “Investment in Human Capital: A Theoretical Analysis.” Journal of Political Economy, 70 (1962), 9–49.CrossRefGoogle Scholar
Becker, B., and Stromberg, P.. “Fiduciary Duties and Equity-Debtholder Conflicts.” Review of Financial Studies, 25 (2012), 1931–1969.CrossRefGoogle Scholar
Bernstein, S.; Colonnelli, E.; and Iverson, B.. “Asset Allocation in Bankruptcy.” Journal of Finance, 74 (2019), 5–53.CrossRefGoogle Scholar
Bertrand, M., and Mullainathan, S.. “Enjoying the Quiet Life? Corporate Governance and Managerial Preferences.” Journal of Political Economy, 111 (2003), 1043–1075.CrossRefGoogle Scholar
Boone, A. L., and Ivanov, V. I.. “Bankruptcy Spillover Effects on Strategic Alliance Partners.” Journal of Financial Economics, 103(2012), 551–569.CrossRefGoogle Scholar
Bradley, D.; Gokkaya, S.; and Liu, X.. “Before an Analyst Becomes an Analyst: Does Industry Experience Matter?” Journal of Finance, 72 (2017), 751–792.CrossRefGoogle Scholar
Bris, A.; Welch, I.; and Zhu, N.. “The Costs of Bankruptcy: Chapter 7 Liquidation Versus Chapter 11 Reorganization.” Journal of Finance, 61 (2006), 1253–1303.CrossRefGoogle Scholar
Chang, T., and Schoar, A.. “Judge Specific Differences in Chapter 11 and Firm Outcomes.” Working Paper, available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=890699 (2013).Google Scholar
Chen, D. L.; Moskowitz, T. J.; and Shue, K.. “Decision Making under the Gambler’s Fallacy: Evidence from Asylum Judges, Loan Officers, and Baseball Umpires.” Quarterly Journal of Economics, 131 (2016), 1181–1242.CrossRefGoogle Scholar
Chilton, A. S., and Levy, M. K.. “Challenging the Randomness of Panel Assignment in the Federal Courts of Appeals.” Cornell Law Review, 101 (2015), 1–56.Google Scholar
Chow, T.; Huang, A.; Hui, K. W.; and Shevlin, T. J.. “Judge Ideology and Corporate Tax Planning.” Working Paper, available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3513154 (2021).Google Scholar
Christensen, H.; Hail, L.; and Leuz, C.. “Capital-Market Effects of Securities Regulation: Prior Conditions, Implementation, and Enforcement.” Review of Financial Studies, 29 (2016), 2885–2924.CrossRefGoogle Scholar
Chychyla, R.; Leone, A. J.; and Minutti-Meza, M.. “Complexity of Financial Reporting Standards and Accounting Expertise.” Journal of Accounting and Economics, 67 (2019), 226–253.CrossRefGoogle Scholar
Clement, M. B. “Analyst Forecast Accuracy: Do Ability, Resources, and Portfolio Complexity Matter?” Journal of Accounting and Economics, 27 (1999), 285–303.CrossRefGoogle Scholar
Cohen, A., and Yang, C.. “Judicial Politics and Sentencing Decisions.” Technical report, National Bureau of Economic Research (2018).CrossRefGoogle Scholar
DeAngelo, G., and Owens, E. G.. “Learning the Ropes: General Experience, Task-Specific Experience, and the Output of Police Officers.” Journal of Economic Behavior and Organization, 142 (2017), 368–377.CrossRefGoogle Scholar
DeFond, M. L.; Hann, R. N.; and Hu, X.. “Does the Market Value Financial Expertise on Audit Committees of Boards of Directors?.” Journal of Accounting Research, 43 (2005), 153–193.CrossRefGoogle Scholar
Denis, D., and Rodgers, K.. “Chapter 11: Duration, Outcome, and Post Reorganization Performance.” Journal of Financial and Quantitative Analysis, 42 (2007), 101–118.CrossRefGoogle Scholar
Dobbie, W., and Song, J.. “Debt Relief and Debtor Outcomes: Measuring the Effects of Consumer Bankruptcy Protection.” American Economic Review, 105 (2015), 1272–1311.CrossRefGoogle Scholar
Dou, W.; Taylor, L.; Wang, W.; and Wang, W.. “Dissecting Bankruptcy Frictions.” Journal of Financial Economics, 142 (2021), 975–1000.CrossRefGoogle Scholar
Eckbo, E.; Li, K., and Wang, W.. “Rent Extraction by Super-Priority Lenders.” Working Paper, Dartmouth College (2020).CrossRefGoogle Scholar
Eisenberg, T., and LoPucki, L.. “Shopping for Judges: An Empirical Analysis of Venue Choice in Large Chapter 11 Reorganizations.” Cornell Law Review, 84 (1999), 967–1003.Google Scholar
Elkamhi, R.; Ericsson, J.; and Parsons, C. A.. “The Cost and Timing of Financial Distress.” Journal of Financial Economics, 105 (2012), 62–81.CrossRefGoogle Scholar
Erkens, D. H., and Bonner, S. E.. “The Role of Firm Status in Appointments of Accounting Financial Experts to Audit Committees.” Accounting Review, 88 (2013), 107–136.CrossRefGoogle Scholar
Franks, J. R., and Torous, W. N.. “An Empirical Investigation of U.S. Firms in Reorganization.” Journal of Finance, 44 (1989), 747–770.CrossRefGoogle Scholar
Gennaioli, N., and Rossi, S.. “Judicial Discretion in Corporate Bankruptcy.” Review of Financial Studies, 23 (2010), 4078–4114.CrossRefGoogle Scholar
Gibbons, R., and Waldman, M.. “Task-Specific Human Capital.” American Economics Review: Papers and Proceedings, 94 (2004), 203–207.CrossRefGoogle Scholar
Goyal, V. K., and Wang, W.. “Provision of Management Incentives in Bankrupt Firms.” Journal of Law, Finance, and Accounting, 2 (2017), 87–123.CrossRefGoogle Scholar
Hall, M. “Randomness Reconsidered: Modelling Random Judicial Assignment in the U.S. Court of Appeals.” Journal of Empirical Legal Studies, 3 (2010), 574–589.CrossRefGoogle Scholar
Harris, D. N., and Sass, T. R.. “Teacher Training, Teacher Quality and Student Achievement.” Journal of Public Economics, 95 (2011), 798–812.CrossRefGoogle Scholar
Heron, R. A.; Lie, E.; and Rodgers, K. J.. “Financial Restructuring in Fresh-Start Chapter 11 Reorganizations.” Financial Management, 38 (2009), 727–745.CrossRefGoogle Scholar
Hertzel, M.; Li, Z.; Officer, M.; and Rodgers, K.. “Inter-Firm Linkages and the Wealth Effects of Financial Distress along the Supply Chain.” Journal of Financial Economics, 87 (2008), 374–387.CrossRefGoogle Scholar
Hotchkiss, E. “Postbankruptcy Performance and Management Turnover.” Journal of Finance, 50 (1995), 3–21.CrossRefGoogle Scholar
Huang, A.; Hui, K. W.; and Li, R. Z.. “Federal Judge Ideology: A New Measure of Ex Ante Litigation Risk.” Journal of Accounting Research, 57 (2019), 431–489.CrossRefGoogle Scholar
Ivashina, V.; Iverson, B.; and Smith, D. C.. “The Ownership and Trading of Debt Claims in Chapter 11 Restructurings.” Journal of Financial Economics, 119 (2016), 316–335.CrossRefGoogle Scholar
Jaggia, S., and Thosar, S.. “An Evaluation of Chapter 11 Bankruptcy Filings in a Competing Risks Framework.” Journal of Economics and Finance, 43 (2019), 569–581.CrossRefGoogle Scholar
Jovanovic, B., and Nyarko, Y.. “A Bayesian Learning Model Fitted to a Variety of Empirical Learning Curves.” Brookings Papers on Economic Activity, Microeconomics, (1995), 247–305.CrossRefGoogle Scholar
Kalay, A.; Singhal, R.; and Tashjian, E.. “Is Chapter 11 Costly?” Journal of Financial Economics, 84 (2007), 772–796.CrossRefGoogle Scholar
Kempf, E.; Manconi, A.; and Spalt, O.. “Learning by Doing: The Value of Experience and the Origins of Skill for Mutual Fund Managers.” Working Paper, Harvard Business School (2017).Google Scholar
Kolay, M.; Lemmon, M.; and Tashjian, E.. “Spreading the Misery? Sources of Bankruptcy Spillover in the Supply Chain.” Journal of Financial and Quantitative Analysis, 51 (2016), 1955–1990.CrossRefGoogle Scholar
Korniotis, G. M., and Kumar, A.. “Do Older Investors Make Better Investment Decisions?” Review of Economics and Statistics, 93 (2011), 244–265.CrossRefGoogle Scholar
Lazear, E. “Firm-Specific Human Capital: A Skill Weights Approach.” Journal of Political Economy, 117 (2009), 914–940.CrossRefGoogle Scholar
Levitt, S. D.; List, J. A.; and Syverson, C.. “Toward an Understanding of Learning by Doing: Evidence from an Automobile Assembly Plant.” Journal of Political Economy, 121 (2013), 643–681.CrossRefGoogle Scholar
Ljungqvist, A.; Zhang, L.; and Zuo, L.. “Sharing Risk with the Government: How Taxes Affect Corporate Risk Taking.” Journal of Accounting Research, 55 (2017), 669–707.CrossRefGoogle Scholar
LoPucki, L., Courting Failure: How Competition for Big Cases Is Corrupting the Bankruptcy Courts. Ann Arbor, Michigan: The University of Michigan Press (2005).CrossRefGoogle Scholar
LoPucki, L., and Doherty, J.. “The Determinants of Professional Fees in Large Bankruptcy Reorganization Cases.” Journal of Empirical Legal Studies, 1 (2004), 111–141.CrossRefGoogle Scholar
LoPucki, L. M., and Doherty, J. W.. “Bankruptcy Survival.” UCLA Law Review, 62 (2015), 969.Google Scholar
Low, K.-Y. “The Effects of Industry Specialization on Audit Risk Assessments and Audit-Planning Decisions.” Accounting Review, 79 (2004), 201–219.CrossRefGoogle Scholar
Mabey, R. “The Evolving Bankruptcy Bench: How Are the “Units" Faring?” Boston College Law Review, 47 (2005, 105–124.Google Scholar
Mikhail, M. B.; Walther, B. R.; and Willis, R. H.. “Do Security Analysts Improve their Performance with Experience?” Journal of Accounting Research, 35 (1997), 131–157.CrossRefGoogle Scholar
Mikhail, M. B.; Walther, B. R.; and Willis, R. H.. “The Effect of Experience on Security Analyst Underreaction.” Journal of Accounting and Economics, 35 (2003), 101–116.CrossRefGoogle Scholar
Norwood, K. J. “Shopping for a Venue: The Need for More Limits on Choice.” University of Miami Law Review, 50 (1995), 267.Google Scholar
Posner, E. “Does Political Bias in the Judiciary Matter? Implications of Judicial Bias Studies for Legal and Constitutional Reform.” University of Chicago Law Review, 75 (2008), 853–883.Google Scholar
Prendergast, C. “The Role of Promotion in Inducing Specific Human Capital Acquisition.” Quarterly Journal of Economics, 108 (1993), 523–534.CrossRefGoogle Scholar
Rachlinski, J. J.; Guthrie, C.; and Wistrich, A. J.. “Inside the Bankruptcy Judge’s Mind.” Boston University Law Review, 86 (2006), 1227.Google Scholar
Reddick, M., and Knowlton, N.. “A Credit to the Courts: The Selection, Appointment, and Reappointment Process for Bankruptcy Judges.” Technical Report (2013).Google Scholar
Seru, A.; Shumway, T.; and Stoffman, N.. “Learning by Trading.” Review of Financial Studies, 23 (2010), 705–739.CrossRefGoogle Scholar
Sharfman, K. “Judicial Valuation Behavior: Some Evidence from Bankruptcy.” Florida State University Law Review, 32 (2005), 387–400.Google Scholar
Shaw, K., and Lazear, E. P.. “Tenure and Output.” Labour Economics, 15 (2008), 704–723.CrossRefGoogle Scholar
Skeel, D. A. “Bankruptcy Judges and Bankruptcy Venue: Some Thoughts on Delaware.” Penn Law Legal Scholarship Repository 719 (1998).Google Scholar
Thorburn, K. “Bankruptcy Auctions: Costs, Debt Recovery, and Firm Survival.” Journal of Financial Economics, 58 (2000), 337–368.CrossRefGoogle Scholar
Wasby, S. X. “Forcing Recusal as a Form of Judge Shopping.” Justice System Journal, 18 (1995), 204–206.Google Scholar
Weiss, L., and Wruck, K.. “Information Problems, Conflicts of Interest, and Asset Stripping.” Journal of Financial Economics, 48 (1998), 55–97.CrossRefGoogle Scholar
Supplementary material: PDF

Iverson et al. supplementary material

Online Appendix

Download Iverson et al. supplementary material(PDF)
PDF 176 KB