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1、12BankruptcyandReorganizationVISHWANATHS.R.ANDCHANDRASHEKARKRISHNAMURTICHAPTEROBJECTIVESHighlightsthecausesoffinancialdistressSurveysthebankruptcycodeintheUS,theUKandsuchothers.SuggestsamethodologyforvaluationofbankruptfirmsSummarizestheresultsofacademicstu
2、diesonvariousaspectsofbankruptcyWhenafirmsconditiondeterioratestotheextentwhereitcannotmeetitsfinancialobligations,thefirmissaidtobeinfinancialdistress.Usually,thefirstsignalsofdistressareviolationofdebtcovenantsandsuspensionofdividends.Bankruptcyincludesfinanc
3、ialreorganizationandliquidation.Financialreorganizationinvolvesrearrangingafirmscashflow(forexample,convertingdebtintoequity),whereasliquidationendsthefirmsoperations.Itinvolvessellingofftangibleassetsandpayingoffclaimantstotheextentpossible.Recentexamplesof
4、distressedfirmsareLAGear,Enron,Iridium,Chrysler,MasseyFergusonandMarvelEntertainment.Someofthesecompanies,onceconsideredthedarlingoftheinvestmentcommunity,haveleftmillionofinvestorswithworthlesspaper.WhyWethankProfessorP.V.Viswanath,LubinSchoolofBusiness,P
5、aceUniversity,NewYorkforusefulcommentsandinputs.334VISHWANATHS.R.ANDCHANDRASHEKARKRISHNAMURTIdosomeapparentlywell-runcompaniesgetintofinancialdistress?Thecausesofdistresscanbeinferredfromtheex-antecharacteristicsofthecompaniesthatbecamedistressed.Weattackt
6、heissueofdistressbyusingex-anteandex-postinformationonthecharacteristicsofsomehighprofiledistressedfirmsandtrytomakesomegeneralizations.CausesofDistressAlthoughcompaniesmaygobankruptduetonumerousreasons,therearesomegenericreasonslikefailureofcontrolsystems,
7、lossaversionandoverconfidence,changesinthemacroeconomicenvironmentandhighlevelsofdebt.ManagerialMyopiaModernfinancetheorysuggeststhattheobjectiveofacorporationistomaximizeshareholdervalue.Duetoagencyconflicts,managersmayenrichthemselvesattheexpenseofsharehol
8、ders.Onewaytocontrolsuchconflictsistoawardstock-basedcompensationplans,becausetheequityownershipinducesmanagerstothinkandactlikeshareholders.Thisisbasedonthepremisethatothercostslikebehaviouralcostscanalsobeaddressed