How Risky is the Debt in Highly Leveraged Transactions? Evidence from Public Recapitalizations
Steven N. Kaplan
Jeremy C. Stein
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 marketadjusted
premium in the leveraged recapitalization represents a reduction in
fixed costs, the implied systematic risk of this debt averages 0.42.
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