Learning Through Failure: The Effect of Banks’ Recent Default Experience on Borrowers’ Timely Loss Recognition

53 Pages Posted: 4 Apr 2016 Last revised: 13 Apr 2018

See all articles by Janet Gao

Janet Gao

Indiana University - Kelley School of Business

Chuchu Liang

University of California, Irvine - Paul Merage School of Business

Kenneth J. Merkley

Indiana University - Kelley School of Business - Department of Accounting

Joseph Pacelli

Indiana University - Kelley School of Business - Department of Accounting

Date Written: April 2018

Abstract

This study examines the effects of lenders’ recent default experience on borrowers’ timely loss recognition. We exploit a unique empirical setting that examines defaults occurring in lenders’ loan portfolios that are unrelated to the firms of interest. We find that borrowers increase timely loss recognition following lenders’ default experiences. Our results vary predictably based on the costs and benefits associated with lenders changing their monitoring behavior. We verify that increases in timely loss recognition connected to lenders’ recent default experiences facilitate greater creditor control, by tightening covenants and increasing the likelihood of violations. Overall, our study suggests that lender default experiences are informative events that have spillover effects for firms’ financial reporting choices.

Keywords: Syndicated Loans, Timely Loss Recognition, Bank Monitoring, Loan Contracts, Covenants

JEL Classification: G20, G21, G30, G32, M41

Suggested Citation

Gao, Janet and Liang, Chuchu and Merkley, Kenneth J. and Pacelli, Joseph, Learning Through Failure: The Effect of Banks’ Recent Default Experience on Borrowers’ Timely Loss Recognition (April 2018). Kelley School of Business Research Paper No. 16-35. Available at SSRN: https://ssrn.com/abstract=2758206 or http://dx.doi.org/10.2139/ssrn.2758206

Janet Gao (Contact Author)

Indiana University - Kelley School of Business ( email )

1309 East Tenth Street
Indianapolis, IN 47405-1701
United States

Chuchu Liang

University of California, Irvine - Paul Merage School of Business ( email )

Irvine, CA California 92697
United States

Kenneth J. Merkley

Indiana University - Kelley School of Business - Department of Accounting ( email )

1309 E. 10th Street
Bloomington, IN 47405
United States

Joseph Pacelli

Indiana University - Kelley School of Business - Department of Accounting ( email )

1309 E. 10th Street
Bloomington, IN 47405
United States

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