Creditor Mandated Purchases of Corporate Insurance

43 Pages Posted: 26 May 2010 Last revised: 1 Feb 2018

See all articles by Brian Cheyne

Brian Cheyne

University of Pennsylvania - The Wharton School

Greg Nini

Drexel University - Department of Finance

Date Written: May 1, 2010

Abstract

We present novel empirical evidence on the contractually mandated purchase of insurance by corporate creditors. In a large sample of private credit agreements of publicly-traded firms, we find that nearly all agreements contain at least a boilerplate provision requiring the borrower to purchase insurance. In about 80 percent of the agreements, the insurance covenant is more explicit. We focus on four additional features of the insurance covenant: explicit permission for the borrower to self-insure, requirements of coverage for specific risks, naming the lender as a loss payee, and mandating that any insurance proceeds be used to repay the loan. We find that credit agreements contain more stringent insurance requirements for borrowers that are smaller and pose higher credit risk, measured in a variety of ways. We also find that insurance requirements are highly correlated with many other terms of the loan and are very strongly positively correlated with the loan being secured by collateral and the loan size being limited by a borrowing base. This latter evidence suggests that insurance creates value by protecting lenders from unexpected changes in seniority that might happen following the destruction of collateral or the occurrence of a large liability suit. Mandatory insurance requirements appear to be an important ingredient of credit agreements designed to encourage monitoring by senior, secured lenders.

Suggested Citation

Cheyne, Brian and Nini, Gregory, Creditor Mandated Purchases of Corporate Insurance (May 1, 2010). Available at SSRN: https://ssrn.com/abstract=1616298 or http://dx.doi.org/10.2139/ssrn.1616298

Brian Cheyne

University of Pennsylvania - The Wharton School ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

Gregory Nini (Contact Author)

Drexel University - Department of Finance ( email )

LeBow College of Business
Philadelphia, PA 19104
United States

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