AGENCY EFFECTS ON THE OUTCOMES OF DISTRESSED FIRMS Available to Purchase

What is the relationship between outcomes for distressed firms and the value of managerial stockholdings in those firms? The outcomes presented are: (1) Chapter 11 reorganization; (2) acquisition/merger; (3) internal turnaround Dollar value of ownership of the firm's common stock by the firm's top managers is used to distinguish between the outcomes for distressed firms which have declining performance. The likelihood of a firm ending up in a merger with or being acquired by another private firm increases with the amount of managerial wealth invested in the firm's stock. Firms whose managers are not owners are more likely to follow an internal turnaround strategy, such as cutting costs and/or selling assets. This strategy offers non‐owner managers a greater opportunity to maintain their managerial prerogatives than does a merger or an acquisition. This outcome is consistent with agency theory, which asserts that where possible, managers act in their own best interests to the detriment of the stockholders' interests. In the context of the firm, agency theory describes the situation wherein stockholders (principals) delegate responsibility for the firm's day to day affairs to managers (agents). One key issue in agency theory is risk sharing. Managers and stockholders may prefer different outcomes for the distressed firm due to their different risk preferences. Findings of the present study suggest that managerial wealth was not a predictor of Chapter 11 reorganization in bankruptcy, but the distressed firms' strategies were affected by the aggregate dollar value of a firm's stock owned by top managers.