RFS Advance Access originally published online on April 9, 2009
Review of Financial Studies 2009 22(12):4949-4988; doi:10.1093/rfs/hhp019
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Bankruptcy Codes and Innovation
London Business School, NYU-Stern, and CEPR
Emory University
Send correspondence to Viral V. Acharya, New York University, Stern School of Business, 44 West 4th St., Room 9-84, New York, NY 10012; telephone: 212-998-0354, fax: 1-212-995-4256. E-mail: vacharya{at}stern.nyu.edu.
JEL Classification: G3, K2, O3, O4, O5
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Abstract |
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We argue that when bankruptcy code is creditor friendly, excessive liquidations cause levered firms to shun innovation, whereas by promoting continuation upon failure, a debtor-friendly code induces greater innovation. We provide empirical support for this claim by employing patents as a proxy for innovation. Using time-series changes within a country and cross-country variation in creditor rights, we confirm that a creditor-friendly code leads to a lower absolute level of innovation by firms, as well as relatively lower innovation by firms in technologically innovative industries. When creditor rights are stronger, technologically innovative industries employ relatively less leverage and grow disproportionately slower.
We are grateful to Raghu Sundaram for numerous discussions since the early stage of the project, to an anonymous referee and Matt Spiegel (editor), to Mark Garmaise, Amir Sufi, Felix Oberholzer-Gee, Stefano Rossi, and Vikramaditya Khanna (discussants), and to Kenneth Ayotte, Gustavo Manso, Raghuram Rajan, and Luigi Zingales, and seminar and conference participants at Annual Finance Association Meetings 2008, Conference on Private and Public Resolution of Financial Distress at Institute of Advanced Studies, Vienna, Emory University, the Federal Reserve Board of Governors, London Business School, Mitsui Life Conference on Financing and Organizing the Firm at University of Michigan, the NBER Summer 2007 Institute on Law and Economics, Stanford University, the Summer Conference on Corporate Finance at the Indian School of Business, and U.C. Berkeley. We thank Bronwyn Hall, John Cantwell, and Grid Thoma for their detailed responses to our queries about the use of U.S. patents to proxy international innovation, and Jon Haveman for sharing with us his SIC–ISIC concordance data. Rong Leng deserves our special thanks for her excellent research assistance. All errors remain our own. A part of this paper was completed while Viral Acharya was visiting Stanford GSB and employed full time at London Business School.