South Korea's large business groups (commonly known as the chaebol) have long engaged in internal transactions such as cross debt guarantees and functioned as an internal capital provider in the environment of liquidity constraints. While many studies have provided evidence that the Korean chaebol significantly contributed to the rapid economic growth over the past several decades, few studies have investigated the effect of such internal transactions on the bankruptcy risk of chaebol firms, in spite of the increasing importance of Korean chaebol firms in the international marketplace. Using panel data from 1996 to 1999, this study has investigated the effect of internal capital transactions (cross debt guarantees) on the likelihood of bankruptcy of chaebol firms. Empirical findings show that debt guarantees tend to increase the likelihood of bankruptcy of chaebol firms by increasing the debt-equity ratio. We have also found that the likelihood of bankruptcy of a chaebol firm is also affected by group-wide financial conditions. Our findings are in contrast with the findings that Japanese keiretsu firms are less likely to go bankrupt. This seemingly contradictory result is due to some differences in the working of the Korean chaebol system and the Japanese keiretsu system.