The role of geography in bankruptcy


2 minute read


Dr Nhan Le 

Corporate bankruptcy is an important event in a firm’s life cycle, eroding the financial wealth of the firm’s stakeholders and adversely affecting its industry peers. However, despite strong evidence of an industry effect, the literature remains silent on whether bankruptcies also affect geographically proximate firms.

Dr Nhan Le from the ANU Research School of Finance, Actuarial Studies and Statistics uses data for publicly listed US firms to provide much-needed evidence in this regard, showing that companies headquartered within a 50km radius of a recently bankrupted firm experience a seven basis point increase in the spreads of their new and renegotiated loans.

“The effect is most pronounced for informationally opaque bankruptcies and borrowers, and weakest among loans with relationship lenders and lenders with significant local presence. Taken together, our findings suggest that the uncertainty and information asymmetry caused by a local bankruptcy event increases lender loan conservatism and, ultimately, translates to greater loan spreads for nearby firms for the following twelve months,” explains Nhan.

In providing this evidence, Nhan’s study more fully characterises the aggregate costs and externalities of corporate bankruptcy. This understanding is particularly important for policymakers as “it allows them to internalise aggregate costs when designing a policy to encourage liquidation or support the continuation of financially, not economically, distressed firms”, Nhan adds.

“As the proportion of loan originations shifts toward large lenders with limited local information, our results suggest that idiosyncratic shocks that lead to otherwise benign bankruptcies have the potential to propagate across firms in the local market”.

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