This paper studies the impact of LBO restructuring risk on corporate credit spreads. We document a negative ex-post reaction in bond prices, strongest for intermediate bond maturities. We show that LBO risk is priced ex-ante by showing that a) firms more likely to undergo an LBO have higher spreads, b) intra-industry credit spreads increase upon an LBO announcement, and c) yields on bonds with event risk covenants are, on average, 28bps lower than those on same-firm bonds without such covenants. We incorporate LBO risk in structural models and estimate the impact on 10-year spreads to be as high as 50bps in high-LBO years.
The Fragility of Organization Capital
Oliver Boguth1, David Ian Newton2, Mikhail Simutin3
1Arizona State University; 2Concordia University; 3Toronto University
Discussant: Maria Chaderina (WU Vienna University of Economics and Business)
Firms with high levels of organization capital, a firm-specific production factor provided by key employees, are known to be risky and earn high stock returns. We argue that the fragility of organization capital - its sensitivity to potential disruptions - is an independently important determinant of risk. We proxy for fragility by the size of the top management team, and show that firms with small teams outperform firms with big teams by 6% annually in the cross-section. To validate our proxy, we show that the return spread increases in the level of organization capital, and that shocks to team composition from unexpected ceo deaths cause larger value losses in smaller teams. A factor capturing organization capital fragility exhibits an exceptional risk-return trade-off and is priced in the cross-section of stocks.
Market Risk Premium and Corporate Activities
Erik Lie1, Bo Meng1, Yiming Qian1, Guofu Zhou2
1University of Iowa; 2Washington University in St. Louis
Discussant: Michael Halling (Stockholm School of Economics)
While existing asset pricing studies focus on macroeconomic variables to predict stock market risk premium, we find that an aggregate index of corporate activities has greater predicting power. Using the corporate index can generate an economic gain of about 11% per annum for a mean-variance investor with risk aversion of three to five. The predictability of the corporate index stems from its information content about future cash flows. Cross-sectionally, the corporate index performs particularly well for stocks with greater information asymmetry. Our results suggest a need for understanding the role of corporate activities in asset pricing theory.