Utilisation and restrictiveness of covenants in Australian private debt contracts

This paper investigates the accounting based covenants typically contained in the private debt contracts of listed Australian firms. In particular, cross sectional determinants of variation in covenant utilisation and restrictiveness are investigated. The primary source of data presented in the paper is a questionnaire completed by senior corporate managers of banks lending to listed Australian firms. In addition, standard and actual bank loan agreements are analysed. The survey results indicate that there is considerable cross-sectional variation in the utilisation and restrictiveness of covenants included in Australian private debt contracts, with this variation being partially explained by firm size and industry membership. The covenants most likely to be included are leverage, interest coverage, current, and prior charges ratios.     

Determinants of financial covenants and pricing of debt in private debt contracts: the UK evidence

This paper presents details of financial covenants given by a sample drawn from the largest 200 non-financial quoted firms in the UK in private debt contracts and analyses these data to see whether there are relationships between the nature of the covenants given and firm characteristics. Data were obtained from 72 firms, of which 17 gave no financial covenants. Firm size was found to be the only significant factor influencing whether firms did or did not give covenants as well as the only factor which influenced the margin given on debt. Some types of covenants given were found to be different from those found in previous research. In particular, there is greater use of EBITDA as a base for both interest cover and gearing covenants. This shows the importance of cash flow based lending as opposed to asset based lending for general financing for large firms.     

Leadership structure and the value of debt contracts: Evidence from the Canadian market

This paper investigates the impact of a firm's leadership structure on its ability to generate value from loans by examining the market reaction to the disclosure of Canadian bank credit agreements. Two leadership structures are considered in this paper. In the first scenario, the positions of Chief Executive Officer and Chair of the Board are held by two different persons (denoted as a Separate CEO-Chair structure); in the second scenario, both positions are held by the same person (denoted as a Combined CEO-Chair structure).We observe a stronger market reaction to the announcement of bank credit agreements when firms have a Separate CEO-Chair structure (relative to a Combined CEO-Chair structure). This stronger market reaction for firms with a Separate CEO-Chair structure suggests that the division of CEO and Chair of the Board responsibilities between two people enhances a firm's ability to generate value from its loans. This conclusion is further supported by the fact that the observed market reaction for firms with a Separate CEO-Chair structure is even greater when the size of the board of directors is small. Our results also indicate that bank monitoring activities are more valuable for firms with a Combined CEO-Chair structure and no institutional shareholder.     

Managerial effect or firm effect: Evidence from the private debt market

This paper provides evidence that the managerial effect is a key determinant of firms’ cost of capital, in the context of private debt contracting. Applying the novel empirical method developed by an earlier study to a large sample that tracks the job movement of top managers, we find that the managerial effect is a critical and significant factor that explains a large part of the variation in loan contract terms more accurately than firm fixed effects. Additional evidence shows that banks “follow” managers when they change jobs and offer loan contracts with preferential terms to their new firms.     

Scope for renegotiation in private debt contracts

I study whether the demand for monitoring explains the scope for renegotiation in private debt contracts. Theory suggests that renegotiation trades off the benefits of enhanced monitoring with the costs of creditor intervention. Consistent with this tradeoff, I show that monitoring demand proxies bear a positive association with renegotiation intensity. In contrast, the costs of creditor intervention are associated with less frequent renegotiations. I also find that contractual monitoring mechanisms, such as covenants and concentrated syndicate structures, are positively related to renegotiation intensity. Furthermore, renegotiations transmit new information to the market, in line with private creditors discovering information during renegotiations.     

Inside debt and firm risk-taking: Evidence from the UK pension reform

This paper provides new evidence on the relation between CEO inside debt and firm risk-taking by exploiting the change in the tax treatment of UK pensions following two pension amendments. The 2006 pension reform introduces the annual and lifetime allowance for UK pension schemes, significantly increasing income taxes associated with CEO inside debt. The 2011 allowance cut, which substantially reduces the annual allowance introduced in 2006, further increases income taxes on inside debt. We find that CEO inside debt, in the form of executive pensions declines after the 2006 reform while cash-in-lieu increases significantly. This effect is more severe after the 2011 allowance cut than the 2006 pension reform. UK firms appear to substitute away from pensions towards cash-in-lieu, where income taxes are less punishing. If the association between CEO inside debt and firm risk-taking is causal, we should observe a change of risk-taking after the decline of inside debt. Our results, which exploit the exogenous nature of the reforms, show that the decline of CEO pensions does not lead to any change in firm risk-taking. This result suggests that no causal relationship exists between CEO inside debt and firm risk-taking. Our results extend the inside debt literature, where empirical evidence is mainly documented in the US. Contrary to findings in the US, our evidence suggests that the use of CEO inside debt is motivated to minimise income tax rather than a tool to moderate firm risk.     

The effects of bank relationships on firm private debt restructuring: Evidence from an emerging market

Our paper seeks to examine the direct benefit of bank relationships for a distressed borrower by assessing its influence on the success of firm private debt restructuring. We find that a distressed firm with a stronger bank relationship has a greater probability to successfully restructure its debt through private renegotiation. Accordingly, an analysis of credit rating recovery provides complementary evidence on the factors of successful debt restructuring. A duration analysis of the length of time needed for a debt restructuring to be completed is fully consistent with our documented results. We conclude that in a bank dominated financial system like Taiwan's where firms are heavily bank-dependent, the bank-firm relationship is of crucial importance to the success of financially distressed firms in private debt restructuring.     

Determinants and consequences of voluntary corporate social responsibility disclosure: Evidence from private firms

We examine whether and how private firms differ from public firms in determining corporate social responsibility (CSR) disclosure policies. We document that private firms are less likely to issue CSR reports compared with their public peers. Adopting a bivariate probit model that accommodates partial observability, we find that the effect is mainly driven by a supply-side force rather than a demand-side force. From a debtholder-oriented perspective, while public firms enjoy more favorable credit ratings and a lower cost of debt due to CSR disclosure, private firms do not reap similar benefits from CSR disclosure. Corporate governance and CSR assurance alleviate debtholders' concern on private firms’ engagements in CSR.     

Prosocial CEOs and the cost of debt: Evidence from syndicated loan contracts

This paper investigates whether banks value the presence of prosocial CEOs when designing loan contracts. Using personal charitable donation behavior to identify prosocial CEOs, we find robust evidence that the presence of prosocial CEOs is negatively related to firms' cost of debt. We address endogeneity concerns by employing a difference-in-differences setting that exploits exogenous CEO turnover events. Moreover, we show that the presence of prosocial CEOs mitigates the conflicts of interest between shareholders and creditors, thereby reduces the agency cost of debt. In addition, we find that the effect of prosocial CEOs also extends to non-price loan contract terms. Finally, we show that the presence of prosocial CEOs has positive implications for firm value and is associated with lower default risk.     

Renegotiation of financial contracts: Evidence from private credit agreements

Using a large sample of private credit agreements between U.S. publicly traded firms and financial institutions, we show that over 90% of long-term debt contracts are renegotiated prior to their stated maturity. Renegotiations result in large changes to the amount, maturity, and pricing of the contract, occur relatively early in the life of the contract, and are rarely a consequence of distress or default. The accrual of new information concerning the credit quality, investment opportunities, and collateral of the borrower, as well as macroeconomic fluctuations in credit and equity market conditions, are the primary determinants of renegotiation and its outcomes. The terms of the initial contract (e.g., contingencies) also play an important role in renegotiations; by altering the structure of the contract in a state contingent manner, renegotiation is partially controlled by the contractual assignment of bargaining power.     

Executive compensation and corporate risk-taking: Evidence from private loan contracts

We examine how management stock options affect corporate risk taking. We exploit exogenous variation in stock option grants generated by FAS 123R and use loan spreads to infer risk taking. Using a difference-in-differences approach, we find that the spreads of loans taken by firms that did not expense options before FAS 123R (treated firms) significantly decrease after FAS 123R relative to firms that either did not issue stock options or voluntarily expensed stock options before 123R (control firms). We also find that the effect is stronger for firms with high agency conflicts associated with risk-shifting. Furthermore, loans taken by the treated firms are less likely to contain collateral requirements and are less likely to have covenants restricting capital investment post FAS 123R.     

加强市场基础建设 提高风险预警能力——希腊主权债务危机的反思

近来,希腊债务危机成为全球经济舆论的焦点。文章指出,希腊债务危机是希腊经济自身缺陷、主权债务信息披露不完善、欧元区体制弊端等问题的集中体现。借鉴希腊债务危机的教训,我们应进一步强化信息披露对金融市场发展基础性作用的认识,通过发展直接融资促进地方政府融资的显性化,并尽快建立和完善我国金融市场的风险监控、预警和处理机制。     

Implications of public corruption for local firms: Evidence from corporate debt maturity

Using political corruption conviction data from the U.S. Department of Justice, we examine the impact of local corruption on firms’ debt maturity structure while exploring both demand-side and supply-side explanations. Our results support the demand-side story and indicate that firms in high corruption areas utilize less short-term debt to mitigate liquidity and refinancing risks. Consistent with this, we find the effect is more pronounced among firms with smaller size, lower asset redeployability, and higher volatility. Our findings remain robust to the inclusion of an array of controls expected to influence debt maturity preferences as well as time, industry, and state fixed effects. Moreover, a seemingly unrelated regression approach, instrumental variables regression, propensity score matching, placebo analyses, and alternative corruption measures corroborate our findings. Altogether, our results indicate that firms alter their debt maturity choices in response to local corruption to limit refinancing risk and the uncertainty created by corrupt government officials.     

The impact of financial reporting quality on debt maturity: the case of private firms

We examine whether the debt maturity structure of privately held firms is associated with the quality of their earnings numbers. We argue that earnings numbers that are better able to predict future cash flows lower information asymmetry between privately held firms and their creditors, improving privately held firms’ access to long-term debt. Furthermore, we examine whether the relationship between privately held firms’ earnings quality and their debt maturity differs between small and medium-sized enterprises (SMEs) and larger privately held firms. Using detailed financial statement information from a sample of privately held Belgian firms, we find that earnings quality is positively associated with the likelihood of having long-term debt and with the proportion of long-term debt in total debt. Further, we report evidence that these associations are more pronounced for SMEs than for larger privately held firms, which is consistent with smaller firms entailing more fundamental risk for creditors.     

CEO inside debt holdings and risk-shifting: Evidence from bank payout policies

Bank payouts divert cash to shareholders, while leaving behind riskier and less liquid assets to repay debt holders in the future. Bank payouts, therefore, constitute a type of risk-shifting that benefits equity holders at the expense of debt holders. In this paper, we provide insights on how CEO incentives stemming from inside debt (primarily defined benefit pensions and deferred compensation) impact bank payout policy in a manner that protects debt holder interests. We show that CEOs with higher inside debt relative to inside equity are associated with more conservative bank payout policies. Specifically, CEOs paid with more inside debt are more likely to cut payouts and to cut payouts by a larger amount. Reductions in payouts occur through a decrease in both dividends and repurchases. Our results also hold over a subsample of TARP banks where we expect the link between risk-shifting and payouts to be of particular relevance because it involves wealth transfers from the taxpayer to equity holders. We conclude that inside debt can help in addressing risk-shifting concerns by aligning the interests of CEOs with those of creditors, regulators, and in the case of TARP banks, the taxpayer.     

The market for corporate control and the cost of debt

How do bondholders view the existence of an open market for corporate control? Between 1985 and 1991, 30 states in the U.S. enacted business combination (BC) laws, raising the cost of corporate takeovers. Relying on these exogenous events, we estimate the influence of the market for corporate control on the cost of debt. We identify different channels through which an open market for corporate control can benefit or harm bondholders: a reduction in managerial slack or the “quiet life,” resulting in higher profitability and firm value; a coinsurance effect, in which firms become less risky after being acquired; and an increasing leverage effect, in which bondholder wealth is expropriated through leverage-increasing takeovers. Consistent with the first two mechanisms, we find that the cost of debt rose after the passage of the BC laws; moreover, it rose sharply for firms in non-competitive industries, and for firms rated speculative-grade. In contrast, there is virtually no effect for firms in competitive industries, or firms rated investment-grade.     

Tax avoidance in family firms: Evidence from large private firms

Ownership structure plays an important role in firms’ decisions on tax avoidance. Recently, the effect of family ownership on corporate tax avoidance has become an issue of increasing interest among scholars from both the fields of family business research and tax research; however, empirical findings have so far remained ambiguous. Based on a unique sample of 678 large private firms from Germany, we show that for unlisted large firms (i) family firms avoid more tax than non-family firms, (ii) tax avoidance increases with the percentage of family ownership, and (iii) tax avoidance is a function of the number of shareholders. We interpret our results as evidence that benefits from avoiding taxes outweigh the non-tax costs in the case of large private family firms in Germany. Furthermore, as the number of family shareholders increases, family firms satisfy increasing demand for dividends by avoiding taxes.     

The emergence of market monitoring in Japanese banks: Evidence from the subordinated debt market

This paper uses a unique data set on the spreads of subordinated debts issued by Japanese banks to investigate the presence of market monitoring. The results show that subordinated debt investors punished weak banks by requiring higher interest rates. Moreover, I find that the spreads and the sensitivity of spreads to Moody’s bank ratings both increased dramatically after the Japanese government allowed a large city bank, Hokkaido Takushoku Bank, to fail and passed the Financial Reform Act and the Rapid Revitalization Act in the late 1990s. These results suggest that the decline of conjectural guarantee led to the emergence of market monitoring. In addition, I find the relationship between spreads and accounting measures of bank risk to be quite fragile.     

Continuous reporting benefits in the private debt capital market

The study is an experiment, administered over the Internet, measuring the effect that continuous reporting has on a company's ability to secure private debt capital. Specifically, we test whether commercial loan officers would be more willing to increase the probablity of loan acceptance to a mid-sized company operating in a continuous reporting environment than they would a company that operates in a traditional reporting environment. We find that high risk companies providing financial information to the lender on a daily basis have a higher probability of loan acceptance than do companies providing financial information to the lender on a quarterly basis. We did not find any results for low risk companies, suggesting the potential benefits of continuous reporting might not accrue to those type companies. The results were robust for both new and existing banking relationship scenarios. We did not find any results for the interest rate variable. The results of this study have significant implications for companies determined to be high risk. Commercial loans are the life-support for many companies, and failure to secure a line-of-credit could have devastating consequences for these high-risk companies.     

Forecasting recoveries in debt collection: Debt collectors and information production

Recent theoretical work suggests that debt collection agencies play an important role in gathering and processing debtor information. We study a comprehensive data set with information provided by original creditors and information gathered in third‐party debt collection. In line with the theoretical results, the initial information is sparse and the gathered information is essential for better‐informed predictions.