How Legal Environments Affect the Use of Bond Covenants

52 Pages Posted: 21 Mar 2009 Last revised: 21 Jul 2013

See all articles by Yaxuan Qi

Yaxuan Qi

City University of Hong Kong (CityUHK) - Department of Economics & Finance

Lukas Roth

University of Alberta - Department of Finance and Statistical Analysis; European Corporate Governance Institute (ECGI)

John K. Wald

University of Texas at San Antonio

Multiple version iconThere are 2 versions of this paper

Date Written: December 15, 2009

Abstract

We examine how country-level legal and institutional investor protection shapes contractual creditor protection. Using debt covenant information for foreign bonds issued in the U.S., we find that bonds of firms incorporated in countries with stronger creditor rights use fewer covenants. This finding suggests that creditor protection substitutes for covenants in reducing the agency cost of debt. In contrast, bonds of firms from countries with stronger shareholder rights use more covenants. Similarly, we find that firms with stronger firm-level corporate governance include more covenants in debt contracts. These findings support the view that firms with stronger shareholder control may face an increase in the shareholder-bondholder conflict and therefore prefer to use more covenants. In addition, we find that the enforcement of laws is positively related to the use of covenants, while the existence of a public credit registry mechanism is negatively related to covenant use.

Keywords: Covenants, contracts, creditor rights, shareholder rights, corporate governance

JEL Classification: G38, K22

Suggested Citation

Qi, Yaxuan and Roth, Lukas and Wald, John K., How Legal Environments Affect the Use of Bond Covenants (December 15, 2009). Available at SSRN: https://ssrn.com/abstract=1364617 or http://dx.doi.org/10.2139/ssrn.1364617

Yaxuan Qi (Contact Author)

City University of Hong Kong (CityUHK) - Department of Economics & Finance ( email )

83 Tat Chee Avenue
Kowloon
Hong Kong

Lukas Roth

University of Alberta - Department of Finance and Statistical Analysis ( email )

2-32E Business Building
Edmonton, Alberta T6G 2R6
Canada
780-492-4431 (Phone)

European Corporate Governance Institute (ECGI) ( email )

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1000 Brussels
Belgium

John K. Wald

University of Texas at San Antonio ( email )

1 UTSA Circle
San Antonio, TX 78249
United States
210-458-6324 (Phone)

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