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The COVID-19 Impact on Corporate Leverage and Financial Fragility

Author

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  • Sharjil M. Haque
  • Mr. Richard Varghese

Abstract

We study the impact of the COVID-19 recession on capital structure of publicly listed U.S. firms. Our estimates suggest leverage (Net Debt/Asset) decreased by 5.3 percentage points from the pre-shock mean of 19.6 percent, while debt maturity increased moderately. This de-leveraging effect is stronger for firms exposed to significant rollover risk, while firms whose businesses were most vulnerable to social distancing did not reduce leverage. We rationalize our evidence through a structural model of firm value that shows lower expected growth rate and higher volatility of cash flows following COVID-19 reduced optimal levels of corporate leverage. Model-implied optimal leverage indicates firms which did not de-lever became over-leveraged. We find default probability deteriorates most in large, over-leveraged firms and those that were stressed pre-COVID. Additional stress tests predict value of these firms will be less than one standard deviation away from default if cash flows decline by 20 percent.

Suggested Citation

  • Sharjil M. Haque & Mr. Richard Varghese, 2021. "The COVID-19 Impact on Corporate Leverage and Financial Fragility," IMF Working Papers 2021/265, International Monetary Fund.
    • Handle: RePEc:imf:imfwpa:2021/265
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    Cited by:

    1. Yao, Yanming & Luo, Pengfei, 2023. "Optimal capital structure and credit spreads under pandemic shocks," Economics Letters, Elsevier, vol. 224(C).
    2. Duan, Yuejiao & Liu, Lanbiao & Zhang, Jingjia, 2024. "The belt and road initiative and the over-leverage of securities companies," Pacific-Basin Finance Journal, Elsevier, vol. 85(C).
    3. Ramos Zambrano, Housseman Steven, 2023. "Riesgo financiero e incertidumbre en los mercados bursátiles en tiempo de covid-19: un análisis bibliométrico," Revista Tendencias, Universidad de Narino, vol. 24(2), pages 262-287, July.
    4. Maquieira, Carlos P. & Arias, José T. & Espinosa-Méndez, Christian, 2024. "The impact of ESG on the default risk of family firms: International evidence," Research in International Business and Finance, Elsevier, vol. 67(PA).

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