Talent in Distressed Firms: Investigating the Labor Costs of Financial Distress

Abstract

The importance of skilled labor and the inalienability of human capital expose firms to the risk of losing talent at critical times. Using Swedish microdata, we document that firms lose workers with the highest cognitive and noncognitive skills as they approach bankruptcy. In a quasi‐experiment, we confirm that financial distress drives these results: following a negative export shock caused by exogenous currency movements, talent abandons the firm, but only if the exporter is highly leveraged. Consistent with talent dependence being associated with higher labor costs of financial distress, firms that rely more on talent have more conservative capital structures.

Information Dispersion across Employees and Stock Returns

“…The specific channels through which each group of workers obtains information about the firm may differ, however. For example, a number of papers argue that rank-and-file employees of firms are able to observe information about a firm's future prospects through their on-the-job activities (Agrawal and Tambe, 2016;Baghai et al, 2018;Bassamboo et al, 2015;Brown and Matsa, 2016;Cowgill and Zitzewitz, 2015). Other studies show that outside workers also gather information about a prospective firm's prospects, through peer networks of workers who are already employed by the firm (Bayer et al, 2008;Cingano and Rosolia, 2012;Hacamo and Kleiner, 2017;Harry, 1987;Holzer, 1988;Ioannides and Datcher Loury, 2004).…”

“…Although our hypothesis pertains to workers who both enter and exit firms, the mechanisms by which these two types of workers obtain information about the firm's future prospects are likely to differ. For example, some studies argue that employees within a company observe information about the firm's future prospects while on the job (Baghai et al (2018); Bassamboo et al (2015); Brown and Matsa (2016); Cowgill and Zitzewitz (2015)). Other studies claim that prospective workers gather information about a firm through the firm's current employees (e.g., Bayer et al (2008); Cingano and Rosolia (2012); Hacamo and Kleiner (2017); Harry (1987); Holzer (1988); Ioannides and Datcher Loury (2004)).…”

Employee Costs of Corporate Bankruptcy

“…22 We require that firms are on Compustat from 21 Our approach uses compensating wage differentials to directly estimate the cost of financial distress resulting from the employee earnings losses due to bankruptcy. See Brown and Matsa (2016) and Baghai, Silva, Thell, and Vig (2018) for evidence that highly levered firms lose high-quality job candidates and employees due to poor job stability. Brown and Matsa (2016) also provide an empirical approach to estimate the indirect cost of financial distress due to deterioration of worker quality in financial distress.…”

“…A contemporaneous paper byBaghai, Silva, Thell, and Vig (2018) uses Swedish employer-employee matched data to document that financially distressed firms lose their most skilled employees. However, they do not examine changes in employee wages around financial distress nor wage premia for financial distress risk, which are our focus.3 For instance, using Compustat data on firm-level employment,Falato and Liang (2016) show that firms cut employment substantially after loan covenant violations, andAgrawal and Matsa (2013) show that firms reduce employment by about 30% during the years surrounding bond defaults.…”

The Effect of Good Corporate Governance Mechanisms, Financial Ratio, and Financial Distress: A Study on Financial Companies

“…Financial distress must be a severe concern for corporations not to go bankrupt and be liquidated. Companies experiencing this condition cause the company not to have the ability to maintain their business continuity and will harm its stakeholders [6]. Financial distress models need to be carried out and continue to be developed because they are a signal for the company if it leads to financial difficulties, so that management can take action to anticipate conditions that lead to bankruptcy.…”