Liang Zou () (University of Amsterdam) Laixiang Sun (International Institute for Applied Systems Analysis)
Abstract
This paper investigates firms' voluntary liquidation decisions. We formulate a type of agency problem, called the exit-incentive problem, where a firm's insiders have private information that creditors do not have. The firm's equity holders tend to delay efficient liquidation despite losses to the firm's total value. We find that if several such firms form a business group (BG) and pool their risks at the start, then value can be created via more efficient exit decisions. The optimal sharing rules that can extract each member firm's private information costlessly are linear functions of the BG's total equity value. However, if independent firms do not suffer from the exit-incentive problem, forming a BG can also destroy firms' value and result in new exit-incentive problems. Applying our analysis to township-village enterprises (TVEs) in China, we find that it is consistent with the high frequency of voluntary liquidation/shut-down of TVEs.
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