The Privatization of Bankruptcy: Evidence from Financial Distress in the Shipping Industry

A generally accepted view is that sophisticated bankruptcy procedures are required to mitigate coordination failures and fire sale discounts arising from financial distress. In this paper, we study an industry not subject to mandatory bankruptcy procedures; instead, the shipping industry has relied on privately negotiated contracts, and not on sovereign procedures, like the US Chapter 11. We describe how loan contracts, and private institutions including competition between ports, have adapted to mitigate the costs of distress. We find low levels of coordination failures and fire sale discounts of 11% on the sale of arrested ships. Both the direct and indirect costs of distress are no larger than those reported for US bankruptcy procedures.