Fiduciary Duties and Equity-Debtholder Conflicts
AbstractWe use an important legal event as a natural experiment to examine the effect of management fiduciary duties on equity-debt conflicts. A 1991 Delaware bankruptcy ruling changed the nature of corporate directors’ fiduciary duties in firms incorporated in that state. This change limited managers’ incentives to take actions favoring equity over debt for firms in the vicinity of financial distress. We show that this ruling increased the likelihood of equity issues, increased investment, and reduced firm risk, consistent with a decrease in debt-equity conflicts of interest. The changes are isolated to firms relatively closer to default. The ruling was also followed by an increase in average leverage and a reduction in covenant use. Finally, we estimate the welfare implications of this change and find that firm values increased when the rules were introduced. We conclude that managerial fiduciary duties affect equity-bond holder conflicts in a way that is economically important, has impact on ex ante capital structure choices, and affects welfare.
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Bibliographic InfoPaper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 17661.
Date of creation: Dec 2011
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Other versions of this item:
- G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
- G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation
- H1 - Public Economics - - Structure and Scope of Government
- H10 - Public Economics - - Structure and Scope of Government - - - General
- L2 - Industrial Organization - - Firm Objectives, Organization, and Behavior
This paper has been announced in the following NEP Reports:
- NEP-ALL-2012-01-03 (All new papers)
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