Bankruptcy law and capital structure choices in economically vs. financially distressed firms: evidence from an emerging market

Purpose The study aims to investigate whether capital structure decisions in pure financially distressed firms differ from those in pure economically distressed firms in the stronger creditor regime. The study uses India’s Insolvency and Bankruptcy Code, 2016, as a policy treatment, which has strengthened creditor rights. Design/methodology/approach This study takes a sample of 814 non-financial Indian firms for a period spanning from 2011 to 2023 and employs the difference-in-differences method, subsample analysis and moderation effect. Findings The findings indicate that following the Code’s implementation, pure financially distressed firms have lowered their debt more than pure economically distressed firms. Furthermore, the subsample analysis shows that pure financially distressed firms are decreasing their debt, whereas pure economically distressed firms are showing an increase in the use of debt. Moreover, the study explores the moderating impact of firm characteristics, i.e. growth, size, tangibility, profitability and liquidity. Originality/value To the authors’ best knowledge, this is the first study that explores how capital structure decisions differ between pure financially distressed firms and pure economically distressed firms in a stronger creditor regime.