College of Business Administration, Northeastern University. Thanks to David T. Brown, Stephen Buser, Mark Flannery, Joel Houston, Christopher James, René Stulz, and an anonymous referee for helpful comments.
The Effect of Bankruptcy Protection on Investment: Chapter 11 as a Screening Device
Article first published online: 30 APR 2012
1994 The American Finance Association
The Journal of Finance
Volume 49, Issue 4, pages 1403–1430, September 1994
How to Cite
MOORADIAN, R. M. (1994), The Effect of Bankruptcy Protection on Investment: Chapter 11 as a Screening Device. The Journal of Finance, 49: 1403–1430. doi: 10.1111/j.1540-6261.1994.tb02459.x
- Issue published online: 30 APR 2012
- Article first published online: 30 APR 2012
Asymmetric information and conflicts of interest between equity and debt holders can force a distressed but efficient firm to liquidate and may enable a distressed inefficient firm to continue. In the extreme, if it is costless for an inefficient firm to mimic an efficient firm in a debt restructuring, efficient and inefficient firms are equally likely to continue or liquidate. This article shows that Chapter 11 procedures impose costs on inefficient firms that would otherwise mimic efficient firms. This separation induces voluntary filing for bankruptcy by inefficient firms and consequently enables efficient firms to continue when they would otherwise be liquidated.