Bank Debt and Performance of Continental European Firms

Abstract

When the sources of external capital for Continental European firms are examined, debt has historically supplied a much larger percentage of the external capital than equity markets. Moreover, firms in Continental Europe often rely more on bank debt than bonds for their external funds. The objective of this paper is to offer insights into bank-based governance and as an innovation to the literature, we test for the impact that banks derive when they are major assets owners through debt but do not have significant equity holdings. For our tests we use a unique data set collected from the ORBIS and AMADEUS data bases consisting of 683 firm observations from Austria, Belgium, France, Germany, the Netherlands, Portugal and Spain. After controlling for firm- and country-specific characteristics, we test to determine if the share of the assets owned by a bank through direct debt is correlated with a firm's performance. Testing only those companies where banks are minority shareholders, we minimize possible confounding effects on performance from the banks equity ownership. We find statistical support for the association between the bank ownership of the assets and performance for our overall sample. When repeating a separate analysis for each country other than Portugal, we find consistent support for the relationship between bank debt and the performance measure of return on assets for firms from each of the six remaining countries in our sample. Overall, these results lend credence to the notion that a bank, through its long-term debt, appears to serve as a significant countervailing force to the governance practices of a firm’s equity owners.

Keywords: bank debt/total assets, corporate governance, financial performance

JEL Classification: G15, G32, G34