Do Capital Asset and Labor Conditions Matter in Loan Contracting? Evidence from Capital and Labor Redeployability

In this paper, we offer the novel insight that debt contract design is affected by the redeployability of borrowers’ capital and labor assets. We find that borrowers with greater redeployability have enjoy favorable loan terms (i.e. a lower loan spread, fewer loan covenants, and a lower likelihood of being a secured loan). These findings suggest that redeployability mitigates lenders’ concerns about cost stickiness and financial distress, as supported by the supplementary evidence that redeployability is negatively associated with cost stickiness and financial distress risk. Further cross-sectional analyses show that lenders regard capital and labor redeployability as substitutes in setting loan terms, consistent with these two types of redeployability having similar functions in reducing post-contracting loan repayment problems. The positive effect of redeployability on favorable loan terms is also stronger for firms with more growth opportunities, consistent with lenders viewing redeployability as important for minimizing the restructuring costs should investments fail.

Keywords: Capital redeployability, Labor redeployability; Loan contracting; Cost stickiness, Financial distress

JEL Classification: G21, G32, J6

Suggested Citation: Suggested Citation

Chen, Yangyang and Ng, Jeffrey and Wang, Chong, Do Capital Asset and Labor Conditions Matter in Loan Contracting? Evidence from Capital and Labor Redeployability (June 30, 2020). Available at SSRN: https://ssrn.com/abstract=3344873 or http://dx.doi.org/10.2139/ssrn.3344873