How Risky is the Debt in Highly Leveraged Transactions? Evidence from Public Recapitalizations

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This paper presents estimates of the systematic risk of the debt in public leveraged recapitalizations. We calculate the systematic risk of the debt as a function of the difference between the systematic equity risk before and after the recapitalization. The increase in equity risk is surprisingly small after a recapitalization, ranging from 28% to 52% depending on the estimation method. Under the assumption that total company risk is unchanged, the implied systematic risk of the post-recapitalization debt in twelve transactions averages 0.67. Under the alternative assumption that the entire market adjusted premium in the leveraged recapitalization represents a reduction in fixed costs, the implied systematic risk of this debt averages 0.42.

Published: "How Risky is the Debt in Highly Leveraged Transactions?" From Journal of Financial Economics, Vol. 27, No. 1, pp. 215-245, (October 1990).

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