Exploring the predictive ability of cost asymmetry on bankruptcy

This study explores whether cost asymmetry affects bankruptcy predictions. Cost asymmetry, driven by adjustment costs, empire-building behaviours, and managerial optimism, can reduce resource availability, liquidity, and earnings predictability, thereby increasing the risk of liquidity issues and potential bankruptcy. High cost asymmetry implies additional financing needs due to idle resources, which are less likely (or more costly) to be covered by retained earnings or capital market funds. Furthermore, elevated cost stickiness driven by intense empire-building consumes valuable resources and signals weaker governance and auditing efficiency, while increased managerial optimism heightens the risk to future operating performance. Using a sample of US publicly listed firms over the period 1990–2020, we provide empirical evidence that the level of cost asymmetry is incrementally useful for bankruptcy prediction. The fundamental factors of cost asymmetry, including adjustment costs and managerial incentives, reinforce its predictive ability to corporate bankruptcy. Additional robustness tests confirm our empirical results across (i) fluctuations in sales revenue, (ii) the effects of financial constraints on cost asymmetry, (iii) managerial and firm-specific characteristics, and (iv) propensity score-based partitioned samples.