Do Lending Relationships Affect Corporate Financial Policies?

Abstract:     
This paper provides new evidence on whether and to what extent lending relationships impact the heterogeneity in firms' capital structure and debt-equity financing decisions. I depart from existing literature on lending relationships in two respects: First, I build a panel dataset on firm-loan observations that enables me to track each firm-bank relationship as it evolves over time and control for firm and year fixed effects. Second, I account for the endogenous nature of the matching between borrowers and lenders through endogenous switching regression models. I find that lending relationships have a significant impact on leverage ratios, issuance choices and debt placement structures of relationship borrowers. The influence of relationships is heightened especially for the financially constrained firms. In an analysis of leverage and issuance changes, I find a significant decrease in net debt issuing activity and debt ratios in the aftermath of lender-specific shocks to lending relationships, including announcements of bank asset write-downs and downgrades in banks' credit ratings. The reported findings are clean of any confounding effects that might arise due to unobserved demand and relationship changes. Overall, my findings lend support to the hypothesis that lending relationships and debt exist as partial complements, rather than substitutes, mitigating the negative effects of agency problems and agency costs or information asymmetry.

Keywords: Lending relationships, Endogenous matching, Financing policy, Lender-specific shocks

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