Valuation of the firm's liabilities when equity holders are also creditors

Research output: Contribution to journalArticlepeer-review

Abstract

This paper presents a tractable structural model whereby controlling equity holders are also among the creditors of the firm. As the firm approaches distress, equity holders can drain the assets of the firm and expropriate other creditors by repaying their credit before bankruptcy. The right of the bankruptcy court to revoke such repayment protects arm's length creditors, reduces the cost of borrowing and induces equity holders to anticipate repayment of their credit. Equity holders decide repayment neither too early nor too late, so as to reduce the risk of repayment revocation by the bankruptcy court. Similar conclusions apply to the preferential repayment of bank loans personally guaranteed by equity holders. The analysis also suggests that callable bearer bonds may be more valuable to equity holders than to other creditors.

Original languageEnglish
Pages (from-to)950-975
Number of pages26
JournalJournal of Business Finance and Accounting
Volume34
Issue number5-6
DOIs
Publication statusPublished - 2007

Keywords

  • equity holders's credit
  • debt repayment
  • assets liquidation
  • revocatoria
  • debt valuation
  • default
  • structural model
  • CAPITAL STRUCTURE
  • CORPORATE-BONDS
  • DEFAULT RISK
  • AGENCY COSTS
  • RATE DEBT
  • COVENANTS
  • LIQUIDITY
  • SPREADS
  • MODEL

Cite this