Do Empty Creditors Matter? Evidence from Distressed Exchange Offers

We examine the effect of credit default swaps (CDSs) on the restructuring of distressed firms. Theoretically, we show that if bondholders are insured with CDSs, the participation rate in a restructuring decreases. Using a sample of distressed exchange offers, we estimate that the participation rate is 29% lower if the firm has CDSs traded on its debt, compared to an unconditional mean of 54%. We use the introduction of the Big Bang protocol as a natural experiment. The results suggest that firms with CDSs find it difficult to reduce debt out-of-court, which is inefficient because it increases the likelihood of future bankruptcy.