Outside Blockholders’ Monitoring of Management and Debt Financing
50 Pages Posted: 25 Nov 2009 Last revised: 18 Oct 2012
Date Written: August 11, 2011
This study examines how outside large shareholders’ monitoring of management, and its interaction with accounting quality, affect firms’ debt financing choices, i.e., the choice between public debt and bank loan. Consistent with the notion that banks have a superior ability to monitor the firm and reduce agency costs of debt caused by blockholders’ monitoring of management, I find that firms with higher outside blockholdings are more inclined to use bank loans relative to public debt when they decide to enter the debt markets. Corroborating this finding, I document that firms with higher outside blockholdings are more likely to include various debt covenants in their bank loans to mitigate the agency conflicts caused by outside blockholders, and that banks charge lower interest spreads than public debtholders in response to increased agency risk. Finally, I find that these relations between blockholdings and debt financing are strengthened when the firm has better accounting quality, suggesting that accounting facilitates blockholders’ monitoring to the detriment of lenders. This study contributes to the corporate governance literature by incorporating lenders’ differential monitoring roles and accounting information in the overall corporate governance system.
JEL Classification: M41, C93
Suggested Citation: Suggested Citation