Hostname: page-component-78c5997874-xbtfd Total loading time: 0 Render date: 2024-11-15T08:33:23.721Z Has data issue: false hasContentIssue false
  • English
  • Français

Strategic Default, Debt Structure, and Stock Returns

Published online by Cambridge University Press:  03 March 2016

Philip Valta
Philip Valta*
Affiliation:
philip.valta@unige.ch, University of Geneva, Swiss Finance Institute, 1211 Geneva, Switzerland.
*
*Corresponding author: philip.valta@unige.ch
Get access Rights & Permissions [Opens in a new window]

Abstract

This paper theoretically and empirically investigates how debt structure and strategic interaction among shareholders and debt holders in the event of default affect expected stock returns. The model predicts that expected stock returns are higher for firms that face high debt renegotiation difficulties and that have a large fraction of secured or convertible debt. Using a large sample of publicly traded U.S. firms for the period 1985–2012, the paper presents new evidence on the link between debt structure and stock returns that is supportive of the model’s predictions.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 51 , Issue 1 , February 2016 , pp. 197 - 229
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2016 

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Altman, E. “Financial Ratios, Discriminant Analysis and the Prediction of Corporate Bankruptcy.” Journal of Finance, 23 (1968), 589–609.Google Scholar
Anderson, R., and Sundaresan, S.. “The Design and Valuation of Debt Contracts.” Review of Financial Studies, 9 (1996), 37–68.CrossRefGoogle Scholar
Angrist, J., and Pischke, J.-S.. Mostly Harmless Econometrics: An Empiricist’s Companion. Princeton, NJ: Princeton University Press (2009).CrossRefGoogle Scholar
Asquith, P.; Gertner, R.; and Scharfstein, D.. “Anatomy of Financial Distress: An Examination of Junk-Bond Issues.” Quarterly Journal of Economics, 109 (1994), 625–658.CrossRefGoogle Scholar
Baldwin, C. Y., and Mason, S. P.. “The Resolution of Claims in Financial Distress: The Case of Massey Ferguson.” Journal of Finance, 38 (1983), 505–516.CrossRefGoogle Scholar
Barclay, M., and Smith, C.. “The Priority Structure of Corporate Liabilities.” Journal of Finance, 50 (1995), 899–917.CrossRefGoogle Scholar
Berglöf, E., and von Thadden, E.-L.. “Short-Term versus Long-Term Interests: Capital Structure with Multiple Investors.” Quarterly Journal of Economics, 109 (1994), 1055–1084.CrossRefGoogle Scholar
Bharath, S., and Shumway, T.. “Forecasting Default with the Merton Distance to Default Model.” Review of Financial Studies, 21 (2008), 1339–1369.CrossRefGoogle Scholar
Bolton, P., and Scharfstein, D.. “Optimal Debt Structure and the Number of Creditors.” Journal of Political Economy, 104 (1996), 1–25.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.Google Scholar
Carhart, M. “On the Persistence in Mutual Fund Performance.” Journal of Finance, 52 (1997), 57–82.CrossRefGoogle Scholar
Colla, P.; Ippolito, F.; and Li, K.. “Debt Specialization.” Journal of Finance, 68 (2013), 2117–2141.Google Scholar
Davydenko, S., and Strebulaev, I.. “Strategic Actions and Credit Spreads: An Empirical Investigation.” Journal of Finance, 62 (2007), 2633–2671.Google Scholar
Fama, E., and French, K.. “The Cross-Section of Expected Stock Returns.” Journal of Finance, 47 (1992), 427–465.Google Scholar
Fama, E., and French, K.. “Common Risk Factors in the Returns of Stocks and Bonds.” Journal of Financial Economics, 33 (1993), 3–56.CrossRefGoogle Scholar
Fama, E., and MacBeth, J.. “Risk, Return, and Equilibrium: Empirical Tests.” Journal of Political Economy, 81 (1973), 607–636.CrossRefGoogle Scholar
Fan, H., and Sundaresan, S.. “Debt Valuation, Renegotiation, and Optimal Dividend Policy.” Review of Financial Studies, 13 (2000), 1057–1099.Google Scholar
Faulkender, M., and Petersen, M.. “Does the Source of Capital Affect Capital Structure?” Review of Financial Studies, 19 (2006), 45–79.CrossRefGoogle Scholar
Favara, G.; Schroth, E.; and Valta, P.. “Strategic Default and Equity Risk across Countries.” Journal of Finance, 67 (2012), 2051–2095.Google Scholar
Francois, P., and Morellec, E.. “Capital Structure and Asset Prices: Some Effects of Bankruptcy Procedures.” Journal of Business, 77 (2004), 387–411.CrossRefGoogle Scholar
Franks, J., and Torous, W.. “An Empirical Investigation of U.S. Firms in Reorganization.” Journal of Finance, 44 (1989), 747–769.Google Scholar
Garlappi, L.; Shu, T.; and Yan, H.. “Default Risk, Shareholder Advantage, and Stock Returns.” Review of Financial Studies, 21 (2008), 2743–2778.CrossRefGoogle Scholar
Garlappi, L., and Yan, H.. “Financial Distress and the Cross-Section of Equity Returns.” Journal of Finance, 66 (2011), 789–822.Google Scholar
Gertner, R., and Scharfstein, D.. “A Theory of Workouts and the Effects of Reorganization Law.” Journal of Finance, 46 (1991), 1189–1222.Google Scholar
Gilson, S.; John, K.; and Lang, L.. “Troubled Debt Restructuring: An Empirical Study of Private Reorganization of Firms in Default.” Journal of Financial Economics, 27 (1990), 315–353.CrossRefGoogle Scholar
Hackbarth, D.; Haselmann, R.; and Schoenherr, D.. “Financial Distress, Stock Returns, and the 1978 Bankruptcy Reform Act.” Review of Financial Studies, 28 (2015), 1810–1847.CrossRefGoogle Scholar
Hackbarth, D.; Hennessy, C.; and Leland, H.. “Can the Trade-Off Theory Explain Debt Structure?” Review of Financial Studies, 20 (2007), 1389–1428.CrossRefGoogle Scholar
Hege, U., and Mella-Barral, P.. “Repeated Dilution of Diffusely Held Debt.” Journal of Business, 78 (2005), 737–786.CrossRefGoogle Scholar
Hennessy, C., and Tserlukevich, Y.. “Taxation, Agency Conflicts, and the Choice between Callable and Convertible Debt.” Journal of Economic Theory, 143 (2008), 374–404.CrossRefGoogle Scholar
Houston, J., and James, C.. “Bank Information Monopolies and the Mix of Private and Public Debt Claims.” Journal of Finance, 51 (1996), 1863–1889.CrossRefGoogle Scholar
Ingersoll, J. “A Contingent-Claims Valuation of Convertible Securities.” Journal of Financial Economics, 4 (1977), 289–321.CrossRefGoogle Scholar
Itô, K. “Stochastic Integral.” Proceedings of the Imperial Academy Tokyo, 20 (1944), 519–524.Google Scholar
Jensen, M., and Meckling, W.. “Theory of the Firm: Managerial Behavior, Agency Costs, and Capital Structure.” Journal of Financial Economics, 3 (1976), 305–360.Google Scholar
Johnson, H., and Stulz, R.. “An Analysis of Secured Debt.” Journal of Financial Economics, 14 (1985), 501–521.Google Scholar
Leeth, J., and Scott, J.. “The Incidence of Secured Debt: Evidence from the Small Business Community.” Journal of Financial and Quantitative Analysis, 24 (1989), 379–394.CrossRefGoogle Scholar
Lyandres, E., and Zhdanov, A.. “Convertible Debt and Investment Timing.” Journal of Corporate Finance, 24 (2014), 21–37.Google Scholar
Mayers, D. “Why Firms Issue Convertible Bonds: The Matching of Financial and Real Investment Options.” Journal of Financial Economics, 47 (1998), 83–102.CrossRefGoogle Scholar
Mella-Barral, P., and Perraudin, W.. “Strategic Debt Service.” Journal of Finance, 52 (1997), 531–556.CrossRefGoogle Scholar
Mikkelson, W. “Convertible Debt and Security Returns.” Journal of Financial Economics, 9 (1981), 237–264.CrossRefGoogle Scholar
Morellec, E. “Asset Liquidity, Capital Structure, and Secured Debt.” Journal of Financial Economics, 61 (2001), 173–206.Google Scholar
Newey, W., and West, K.. “A Simple, Positive Semi-Definite, Heteroskedasticity and Autocorrelation Consistent Covariance Matrix.” Econometrica, 55 (1987), 703–708.CrossRefGoogle Scholar
Pastor, L., and Stambaugh, R.. “Liquidity Risk and Expected Stock Returns.” Journal of Political Economy, 111 (2003), 642–685.Google Scholar
Rampini, A., and Viswanathan, S.. “Collateral and Capital Structure.” Journal of Financial Economics, 109 (2013), 466–492.Google Scholar
Rauh, J., and Sufi, A.. “Capital Structure and Debt Structure.” Review of Financial Studies, 12 (2010), 4242–4280.CrossRefGoogle Scholar
Scott, J. “Bankruptcy, Secured Debt, and Optimal Capital Structure.” Journal of Finance, 32 (1977), 1–19.Google Scholar
Scott, J. “Bankruptcy, Secured Debt, and Optimal Capital Structure: Reply.” Journal of Finance, 34 (1979), 253–260.Google Scholar
Smith, C., and Warner, J.. “On Financial Contracting: An Analysis of Bond Covenants.” Journal of Financial Economics, 7 (1979), 117–161.Google Scholar
Stein, J. “Convertible Bonds as Backdoor Financing.” Journal of Financial Economics, 32 (1992), 3–21.CrossRefGoogle Scholar
Vassalou, M., and Xing, Y.. “Default Risk in Equity Returns.” Journal of Finance, 59 (2004), 831–868.CrossRefGoogle Scholar
Zhang, A. “Distress Risk Premia in Expected Stock and Bond Returns.” Journal of Banking and Finance, 36 (2012), 225–238.CrossRefGoogle Scholar
Zmijewski, M. “Methodological Issues Related to the Estimation of Financial Distress Prediction Models.” Journal of Accounting Research, 22 (1984), 59–82.Google Scholar