Creditor rights and corporate risk-taking

We analyze the link between creditor rights and firms' investment policies, proposing that stronger creditor rights in bankruptcy reduce corporate risk-taking.In cross-country analysis, we find that stronger creditor rights induce greater propensity of firms to engage in diversifying acquisitions, which result in poorer operating and stock-market abnormal performance.In countries with strong creditor rights, firms also have lower cash flow risk and lower leverage, and there is greater propensity of firms with low-recovery assets to acquire targets with high-recovery assets.These relationships are strongest in countries where management is dismissed in reorganization, and are observed in time-series analysis around changes in creditor rights.Our results question the value of strong creditor rights as they have an adverse effect on firms by inhibiting management from undertaking risky investments.