Financial distress occurs when debts and obligations exceed income. This may force individuals out of employment or into bankruptcy.
This study builds a model to investigate how financial distress influences investment returns by translating moderating effects into staging ones and testing how past income-increasing measures and earnings management affect future overinvestment decisions.
Restructuring
Restructuring is a business strategy used to reduce debt and increase free cash flow, using various means such as selling assets or raising equity. Other possible measures may include debt-for-equity swaps, restructuring agreements or even bankruptcy proceedings.
Previous studies have demonstrated the correlation between financial distress and over- and underinvestment issues, and cognitive distortions among CEOs making investment decisions. This research contributes to this literature by investigating how such distress influences CEO cognitive distortions when making future over-investment and other investment decisions. More specifically, findings include strengthening earnings management’s association with past income-increasing measures while weakening its connection to future over-investment; its effects were further moderated by investment opportunities as firms with fewer opportunities tended to under invest more often; results were robust to additional variables and factors used as controls throughout this research project.
Re-pricing
Financial distress often calls for restructuring plans to reduce debt and improve cash flow, and to create the optimal solution for all stakeholders involved. Restructuring could involve anything from negotiating terms with creditors, extending debt maturities, converting debt into equity or selling assets; as well as cost-cutting measures or changes to management or strategy strategies.
Financial distress events can have far-reaching repercussions, from reduced employee morale and productivity, reputation damage and customer losses to legal disputes and off-balance sheet liabilities, not to mention decrease in valuation.
In this study, we present a model that takes explicitly into account the impact of financial distress on investment behavior for firms. We find that when present, financial distress strengthens earnings management decisions tied to past income-increasing measures while impacting future overinvestment decisions and increases hedging incentives among highly leveraged firms in concentrated industries.
Re-engineering
Re-engineering is an approach used by organizations to change how they conduct business. It involves evaluating their current system, developing alternative processes and testing them in the market – this can be a costly endeavor that consumes both time and resources; before beginning this endeavor it’s essential that all stakeholders involved understand and approve of any changes planned as this project begins.
Reengineering was a management strategy embraced by some and considered a fad by others, but its origins can be found in much older management techniques like total quality management and lean manufacturing from Toyota. Reengineering was also seen as an extension of Theory of Constraints with its goal being reducing production costs through eliminating bottlenecks in supply chains. According to this study’s results, financial distress tends to negatively impact output more in the United States than other countries but this effect can be reduced through more bank loans/business debt/capitalization ratios from banks than business debt/capitalization ratios in business debt ratios/capitalization ratios/bank capitalization ratios/creditor obligations/indebt/.
Selling
Financial distress occurs when an individual or organization cannot fulfill its debts and obligations as promised. This often signals bankruptcy proceedings; causes may include high fixed costs, large amounts of illiquid assets or revenues that fluctuate significantly due to economic downturns. Individuals experiencing financial distress may face wage garnishments and lawsuits from creditors as a result.
This study investigates the effects of financial distress on investment returns and identifies factors which exacerbate them, using panel data to estimate regression models that account for both observable and unobservable heterogeneity among explanatory variables. Their results demonstrate how both distress and soundness impact earnings management differently; distress having more of an influence than soundness due to overinvestment while soundness tends to influence under-investment.
Findings indicate that non-systemic banking distress on the economy has moderate and less severe effects in well-capitalized systems, while systemic banking crises tend to produce larger and more immediate contractionary effects on output and unemployment.