Loan Ownership Dispersion and Control over Mandatory GAAP Changes

Abstract:     
Using a sample of 500 private credit agreements originated over the 1996 to 2004 period, we study firms’ choice of contracting practice with respect to mandatory changes in GAAP – understanding the choice of contracting practice is necessary to understand the economic consequences of GAAP changes. We identify a new contracting practice that differs from the practices documented in prior work in that it gives the contracting parties a valuable option to exclude the effect of accounting changes. Because different contracting practices achieve a different allocation of control over future GAAP changes, we argue that the control allocation depends on the nature of lending relationships in a way that protects both parties against expropriation. We find that control over GAAP changes is shifted from the borrower to lenders as loan ownership dispersion increases. Further, when lenders’ incentives to free ride become an impediment to renegotiation, the new contracting practice that we document renders lenders’ control over GAAP changes contingent on whether the required percentage of lenders become informed and vote. Overall, the results imply that syndicate structure affects how credit agreements treat GAAP changes and hence influence the economic consequences of mandatory accounting changes.

Number of Pages in PDF File: 43

Keywords: Debt contracting, Accounting change, Syndicated lending market, Private credit agreements

JEL Classification: M4, G32

working papers series