Rent Extraction by Super-Priority Lenders

70 Pages Posted: 16 May 2019 Last revised: 18 Dec 2020

See all articles by B. Espen Eckbo

B. Espen Eckbo

Tuck School of Business at Dartmouth; European Corporate Governance Institute (ECGI)

Kai Li

University of British Columbia (UBC) - Sauder School of Business; Asian Bureau of Finance and Economic Research (ABFER); China Academy of Financial Research (CAFR); European Corporate Governance Institute (ECGI); Canadian Sustainable Finance Network (CSFN)

Wei Wang

Queen's University - Smith School of Business

Date Written: December 18, 2020

Abstract

We present strong evidence of supra-competitive pricing of debtor-in-possession (DIP) loans in Chapter 11. Over-collateralized and with super-priority, restrictive covenants and milestones, we show that DIP loans have near-zero payment default risk, whereas their spreads average 600 basis points, five times those on matched investment-grade loans with comparable default risk. Prepetition lenders, who may block competition from new lenders, dominate DIP-loan supply. Surprisingly, spreads are even higher with new lenders. Junior claimants often contest DIP-loan terms in court - to little avail. The evidence points to an agency problem likely arising from debtor CEOs' personal continuation bias when debtor survival is on the line.

Keywords: Debtor-in-possession, Chapter 11, rent extraction, covenants, loan spreads, fees, roll-up, leveraged loans, prepetition lenders

JEL Classification: G14, G34

Suggested Citation

Eckbo, B. Espen and Li, Kai and Wang, Wei, Rent Extraction by Super-Priority Lenders (December 18, 2020). Tuck School of Business Working Paper No. 3384389 (2019), Available at SSRN: https://ssrn.com/abstract=3384389 or http://dx.doi.org/10.2139/ssrn.3384389

B. Espen Eckbo (Contact Author)

Tuck School of Business at Dartmouth ( email )

Hanover, NH 03755
United States
603-646-3953 (Phone)
603-646-3805 (Fax)

HOME PAGE: http://tuck.dartmouth.edu/faculty/faculty-directory/b-espen-eckbo

European Corporate Governance Institute (ECGI)

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Kai Li

University of British Columbia (UBC) - Sauder School of Business ( email )

2053 Main Mall
Vancouver, BC V6T 1Z2
Canada
604-822-8353 (Phone)
604-822-4695 (Fax)

HOME PAGE: http://finance.sauder.ubc.ca/~kaili

Asian Bureau of Finance and Economic Research (ABFER) ( email )

BIZ 2 Storey 4, 04-05
1 Business Link
Singapore, 117592
Singapore

China Academy of Financial Research (CAFR)

1954 Huashan Road
Shanghai P.R.China, 200030
China

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Canadian Sustainable Finance Network (CSFN) ( email )

Queens University
Kingston, ON
Canada

HOME PAGE: http://https://smith.queensu.ca/centres/isf/research/network.php

Wei Wang

Queen's University - Smith School of Business ( email )

Queen's University-Smith School of Business
143 Union Street
Kingston, Ontario K7L 3N6
Canada

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