Managerial Ability and Credit Risk Assessment
56 Pages Posted: 23 Aug 2015 Last revised: 13 Apr 2017
Date Written: September 10, 2015
Research on the credit rating process has primarily focused on how rating agencies incorporate firm characteristics into their rating opinions. We contribute to this literature by examining the impact of managerial ability on the credit rating process. Given debt market participants’ interest in assessing default risk, we begin by documenting that higher managerial ability is associated with lower variability in future earnings and stock returns. We then show that higher managerial ability is associated with higher ratings (i.e., lower assessments of credit risk). To provide more direct identification of the impact of managerial ability, we examine CEO replacements and document that ratings increase (decrease) when CEOs are replaced with more (less) able CEOs. Finally, we show that managerial ability also has capital market implications by documenting that managerial ability is associated with bond offering credit spreads. Collectively, our evidence suggests that managerial ability is an important factor that bond market participants impound into their assessments of firm credit risk.
Keywords: credit ratings, cost of debt capital, managerial ability, managerial efficiency
JEL Classification: G30, J24
Suggested Citation: Suggested Citation