Governance and Capital Structure: Theory and Evidence from the CMBS Market

42 Pages Posted: 14 Sep 2016 Last revised: 12 Oct 2016

See all articles by Timothy J. Riddiough

Timothy J. Riddiough

University of Wisconsin - School of Business - Department of Real Estate and Urban Land Economics

Jun Zhu

Urban Institute

Date Written: September 13, 2016

Abstract

Theory and evidence are presented on how governance structure affects security design. Two types of frictions are isolated as they affect agent incentives to resolve financial distress: moral hazard in costly effort provision and risk-shifting incentives. A tension is shown to exist between the two effects, favoring a focus on one or the other depending on asset resale market conditions anticipated at the time of securities issuance. We show that, although effort provision is efficient with direct subordinate securityholder control over loan modification, there exist market conditions when concerns over risk-shifting costs predominate. As a result, governance mechanisms that limit risk shifting can be value enhancing. Empirical analysis of two distinct samples of commercial mortgage-backed securities issuances supports many of the model predictions, including the relative efficiency of junior security control over the workout specialist. We also empirically isolate the value-enhancing properties of specific governance mechanisms, the relative effects of which are time and market dependent.

Keywords: Structured Finance, Security Governance, Security Design, Special servicer, CMBS

JEL Classification: G21, G14

Suggested Citation

Riddiough, Timothy J. and Zhu, Jun, Governance and Capital Structure: Theory and Evidence from the CMBS Market (September 13, 2016). Available at SSRN: https://ssrn.com/abstract=2838597 or http://dx.doi.org/10.2139/ssrn.2838597

Timothy J. Riddiough

University of Wisconsin - School of Business - Department of Real Estate and Urban Land Economics ( email )

School of Business
975 University Avenue
Madison, WI 53706
United States
608-262-3531 (Phone)
608-265-2738 (Fax)

Jun Zhu (Contact Author)

Urban Institute ( email )

2100 M Street N.W.
Washington, DC 20037
United States

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