Relationship bank behavior during borrower distress and bankruptcy∗

This paper provides a comprehensive examination of differences between relationship bank behavior for a set of borrowers that either underwent distress or filed for bankruptcy relative to normal times. Prior to distress, banks offer preferential contract terms in the form of lower interest rates and less collateral requirement to their relationship borrowers. After the onset of distress, banks offer identical loan contract terms to their relationship borrowers and outside borrowers. Further, loan availability from relationship lenders (relative to outside lenders) is significantly lower after the onset of distress. However, after filing for bankruptcy, banks again offer preferential terms to their relationship borrowers in terms of collateral requirement. Further, availability of loans from relationship lenders is comparable to that in normal times. Our findings contribute to both the literature on soft budget constraints as well as that on DIP financing. ∗We would like to thank Yakov Amihud, Miao Bin, Edmund Cheung, Allaudeen Hameed, Srinivasan Sankaraguruswamy and seminar participants at Korea University and Financial Management Association for their comments on earlier drafts. Srinivasan thanks NUS Faculty Research Grants R-315-000-066-112 and R-315-000-066-133 for financial support for this project. †Dept of Finance, NUS Business School and Risk Management Institute, National University of Singapore, 1 Business Link, BIZ1 Building 04-34, Singapore 117592, Tel: (65) 6516 8434, Email:[email protected] ‡Korea University Business School, Anam-Dong, Seongbuk-Gu, Seoul, 136-701, Korea, Tel: 82-23290-2622 E-mail: [email protected] Relationship bank behavior during borrower distress and bankruptcy