The value of banking relationships during a financial crisis: evidence from failures of Japanese banks

In this paper, we provide evidence on the value of banking relationships by examining the stock market valuation impact of three large bank failures in Japan in 1997 and 1998 on their clients and the clients of surviving banks. Bank failures are theorized to have adverse consequences for other firms in general, and for customers of the failed institutions in particular. Firms that are customers of the failed institution may be adversely affected because, among other things, they may lose an ongoing source of funding and need to incur the expense of search and providing financial and other information about themselves to new lenders. Hence, severance of banking ties due to a bank failure can have adverse consequences for the clients of the failed bank. In addition, firms that are not customers of the failed bank may be adversely affected because the failure may signal existing but yet unrecognized problems at other banks, ignite problems at other banks through spillover or contagion, or foretell adverse economic conditions for the economy in the region or nationwide. ; Unlike previous studies of this type, we examine not only the impact of bank failure announcements on the market valuation of the client firms of the failed banks, but the impact of the announcements on all firms including the clients of surviving banks. By also examining the stock valuation of the failure announcements for firms that did not have relationships with the failed institutions, we can identify any differences in the effects on clients and non-clients of the failed banks. This is particularly important when the distress or failure announcements occur in the midst of an on-going financial crisis, and therefore, can have strong implications for the viability of surviving banks and their relationships with client firms. ; We find that, as in previous studies, the market value of customers of the failed banks is adversely affected at the date of the failure announcements. In addition, the effects are related to the financial characteristics of the client firms and their primary banks. Firms that have greater access to alternative sources of funding experience a less severe adverse impact from bank failure announcements. Similarly, clients of banks that are more profitable, better capitalized, and have lower loan loss reserves suffer less from the failure announcements. However, we also find that these effects are not significantly different from the effects experienced by all firms in the economy. That is, the bank failures represent \"bad news\" for all firms in the economy, not just for the customers of the failed banks.