Bankruptcy reform and corporate risk-taking: Evidence from a quasi-natural experiment

Abstract

Using the initiation of bankruptcy reforms in India, we assess the causal effect of the bankruptcy reform on corporate risk-taking. We observe that the reform that balances the rights of creditors and debtors enables distressed firms to increase their corporate risk-taking than non-distressed firms. We next show that an increase in corporate risk-taking increases the operating performance of distressed firms, compared with non-distressed firms. These results indicate that the bankruptcy reform that favors safe viable businesses instead of forcing distressed firms to inefficient liquidation alters firms’ incentives to take the risk.