Essays on risky debt

Davydenko, Sergei (2005) Essays on risky debt. Doctoral thesis, University of London: London Business School.

Abstract

This Thesis studies how firms are reorganized in financial distress, and how existing reorganization practices influence the pricing of risky debt. It consists of five chapters. Chapter I introduces the research topics that the Thesis addresses, and briefly outlines its findings. Chapter 2 investigates whether default is triggered by low asset values or by liquidity shortages. It shows how the importance of both factors depends on financing costs, and suggests that the default boundary assumption is likely to result in cross-sectional errors in prediction. Chapter 3 investigates how corporate credit spreads depend on firm characteristics that are likely to influence the way the firm is reorganized if it defaults. In particular, it empirically tests the hypothesis that bond spreads incorporate the possibility of strategic default when debt contracts can be renegotiated, and find the effect to have limited economic significance. Chapter 4 studies the implication of the country's bankruptcy codes for lending and reorganization practices using a sample of defaulted firms in three European countries. It finds that endogenous adjustments to particular provisions of the bankruptcy law mitigate but do not eliminate differences in default outcomes, emphasizing the country-specific nature of existing evidence on credit risk. Chapter 5 concludes and discusses avenues for future research.