Do defaulting CEOs and directors increase the likelihood of financial distress of the firm?

Do defaulting CEOs and directors increase the likelihood of financial distress of the firm? We hypothesize that the information on a CEO’s and directors’ (board members) past personal payment default entries in public credit data files significantly increases the predictive power of Altman’s (in J Fin 23(4):589–609, 1968) and Ohlson’s (In J Acc Res 18(1):109–131, 1980) distress prediction models. We base our hypothesis on the literature showing that (1) managerial traits such as overconfidence, over-optimism, and the illusion of control affect corporate decisions and that (2) these same personal traits explain personal over-indebtedness and credit defaults. Our results of analyzing the credit data files of more than 100,000 CEOs and directors of the Finnish private limited liability companies support this hypothesis. Our results remain materially unchanged when using the bootstrapping method to assess their significance and when excluding small firms (firm size below the sample median). Collectively, our results imply that creditors should recognize the increased distress risk of firms appointing defaulting CEOs and directors. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Accounting Studies Springer Journals

Do defaulting CEOs and directors increase the likelihood of financial distress of the firm?

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Publisher
Springer US
Copyright
Copyright © 2012 by Springer Science+Business Media, LLC
Subject
Economics / Management Science; Accounting/Auditing; Finance/Investment/Banking; Public Finance & Economics
ISSN
1380-6653
eISSN
1573-7136
D.O.I.
10.1007/s11142-012-9203-x
Publisher site
See Article on Publisher Site

Abstract

We hypothesize that the information on a CEO’s and directors’ (board members) past personal payment default entries in public credit data files significantly increases the predictive power of Altman’s (in J Fin 23(4):589–609, 1968) and Ohlson’s (In J Acc Res 18(1):109–131, 1980) distress prediction models. We base our hypothesis on the literature showing that (1) managerial traits such as overconfidence, over-optimism, and the illusion of control affect corporate decisions and that (2) these same personal traits explain personal over-indebtedness and credit defaults. Our results of analyzing the credit data files of more than 100,000 CEOs and directors of the Finnish private limited liability companies support this hypothesis. Our results remain materially unchanged when using the bootstrapping method to assess their significance and when excluding small firms (firm size below the sample median). Collectively, our results imply that creditors should recognize the increased distress risk of firms appointing defaulting CEOs and directors.

Journal

Review of Accounting StudiesSpringer Journals

Published: Jul 19, 2012

References

  • Financial ratios, discriminant analysis and the prediction of corporate bankruptcy
    Altman, E

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