Non-Financial Liabilities and Effective Corporate Restructuring

Many insolvency systems focus on restructuring financial liabilities, and ignore operational liabilities such as leases and long-termsupplier contracts. We model the U.S. option to reject such contracts and find that it avoids excessive liquidation of firms with significant non-financial obligations and increases debt capacity ex ante. Using text analysis and accounting data to measure the extent of executory contracts, we test the debt capacity hypothesis using difference-in-difference tests comparing
the U.S. to countries where rejection is limited and the introduction of rejection in Israel in 2019. We find operating restructuring is a key aspect of insolvency with a large impact on corporate capital structures.