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.     

Why has the investment-cash flow sensitivity declined so sharply? Rising R&D and equity market developments

The study of the investment-cash flow (ICF) sensitivity constitutes one of the largest literatures in corporate finance, yet little is known about changes in the ICF relationship over time, and the literature has largely ignored how rising R&D investment and developments in equity markets have impacted ICF sensitivity estimates. We show that for the time period 1970–2006, the ICF sensitivity: (i) largely disappears for physical investment, (ii) remains comparatively strong for R&D, and (iii) declines, but does not disappear, for total investment. We argue that these findings can largely be explained by the changing composition of investment and the rising importance of public equity as a source of funds, particularly for firms with persistent negative cash flows.     

Institutional ownership,volatility and dividends

We find that the sign of the correlation between institutional ownership and volatility depends on the firm’s dividend policy: institutional ownership is negatively (positively) related to volatility among non-dividend (dividend) paying stocks. The empirical results are consistent with an interaction between institutional preference for low volatility and the tendency of higher levels of institutional ownership to increase volatility through their trading behavior. This result is robust to many control variables and possible endogeneity concerns. Supporting our conjecture that institutions herd on dividend signals we find that the correlation between turnover and institutional ownership is higher for dividend paying stocks, and that the positive correlation between turnover and institutional ownership is higher on dividend declaration days. Finally, we also find that the level of institutional ownership drops following an increase in volatility for both dividend payers and non-payers, and that volatility rises following increased institutional ownership for dividend paying stocks.     

Interest rate changes and the timing of debt issues

There is much recent interest in the role of market timing in firm financial decisions. Using a large detailed sample of corporate public debt issues, private placements, Rule 144A issues and bank loans over the period 1970–2006, we investigate the relationship between interest rate changes and issues of floating and fixed-rate debt. Our results indicate that both past and future rates are associated with issuance decisions. We examine whether firms are able to lower their cost of capital by anticipating future rate changes, controlling for firm characteristics and market conditions. Our findings suggest that evidence of timing success is dependent on the time interval and type of debt examined. Over the longest time intervals available in our data, we do not find evidence of timing ability for fixed-rate or floating-rate debt issues.     

The announcement impact of seasoned equity offerings on bondholder wealth

Previous studies document a negative return to equity on the announcement of an SEO. However, the effects of SEO announcements on bonds have received little attention. We find that bondholders experience a significant positive return on the announcement of an SEO and this effect is more pronounced for bonds with lower ratings. We examine alternate explanations for bond market reactions to SEO announcements including the leverage risk reduction, wealth transfer, and information signaling hypotheses. Overall, our results are most consistent with the leverage risk reduction hypothesis.     

Effect of ownership structure on underinvestment and overinvestment: empirical evidence from Spain

This paper investigates how ownership affects the investment‐cash flow sensitivity by taking into account the non‐linearities of ownership with respect to firm value, and using a free cash flow index and a criterion for financial constraints to disentangle underinvestment and overinvestment. Interesting results are provided by estimating using the Generalized Method of Moments to eliminate the endogeneity problem. The alignment of interests between owners and managers and the monitoring by concentrated ownership both alleviate the sensitivity of investment to cash flow both in underinvestor and overinvestor firms. However, in the presence of controlling owners, underinvestment and overinvestment are exacerbated.     

The Impact of Managerial Entrenchment on Agency Costs: An Empirical Investigation Using UK Panel Data

This paper empirically investigates the relationship between managerial entrenchment and agency costs for a large sample of UK firms over the period 1999–2005. To measure managerial entrenchment, we use detailed information on ownership and board structures and managerial compensation. We develop a managerial entrenchment index, which captures the extent to which managers have the ability and incentives to expropriate wealth from shareholders. Our findings, which are based on a dynamic panel data analysis, show that there is a strong negative relationship between managerial entrenchment and our inverse proxy for agency costs, namely asset turnover ratio. There is also evidence that short‐term debt and dividend payments work as effective corporate governance devices for UK firms. Finally, our findings reveal that agency costs are persistent over time. The results are robust to a number of alternative specifications, including varying measures of managerial entrenchment and agency costs.     

Why Do Western European Firms Issue Convertibles Instead of Straight Debt or Equity?

Unlike their US counterparts, European convertible debt issuers tend to be large companies with small debt‐ and equity‐related financing costs. Therefore, it is puzzling why these firms issue convertibles instead of standard financing instruments. This paper examines European convertible debt issuer motivations by estimating a security choice model that incorporates convertibles, straight debt, and equity. We find that European convertibles are used as sweetened debt, not as delayed equity. This motivation is reflected in the debt‐like design of most European convertible issues.     

Measuring the Effective Tax Burden in the Real World*

This paper argues that forward‐looking indices of the effective tax burden on income from capital – namely, effective marginal and average tax rates – are negatively biased because traditional models overlook dividend constraints associated with financial tax incentives, such as accelerated depreciation. The paper presents measures of the two indices adjusted to remove the bias and compares the new indices with the traditional ones. Numerical simulations carried out to quantify the magnitude of the bias for France, Germany, Ireland, Italy and the UK give evidence of sizeable distortions in the unadjusted indices and, in turn, suggest significant mismeasurement in the current assessment of the effective tax burden.     

Political patronage in Ukrainian banking1

This paper empirically investigates the link between political patronage and bank performance for Ukraine during 2003Q3–2005Q2. We find significant differences between politically affiliated and non‐affiliated banks. The data suggest that affiliated banks have significantly lower interest rate margins and increase their capitalization. Furthermore, we show that the level of activity of affiliated deputies in parliament has a positive (negative) impact on banks’ capitalization ratio (interest rate margin). Our findings imply, in line with the related literature, that political affiliation has important effects on banks’ behaviour.