Question

Distinguish between direct and indirect costs in a corporate bankruptcy. Describe agency costs and the impact...

Distinguish between direct and indirect costs in a corporate bankruptcy. Describe agency costs and the impact on bondholders.

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Answer #1

Basically the direct costs are the ones which are incurred as a process of filing bankruptcy by the company.It can include all costs associated with liquidation of assets such as legal costs,auditors fees,other related fees etc.Indirect costs are the ones which are incurred by the company indirectly during the process of bankruptcy such as loss of trust from customers,loss of employees,loss of creditors etc.

Agency costs are described as the costs that are incurred due to the conflict of interest between management and owners of the company-the share holders.A simple example can be when the owners pay financial incentives to the management for ideally keeping their interest as topmost one.Hence managers make take more riskier actions to provide high return for the share holders.But the bond holders may not encourage this as they want their money to be used in more safer things.

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