Loans to Chapter 11 Firms: Contract Design and Pricing

Abstract

Using a hand-collected data set of 545 debtor-in-possession (DIP) loan facilities from 2002 - 2019, we show that DIP loans are over-collateralized and contain a comprehensive set of restrictive covenants, mandatory prepayments, and restructuring milestones. We further show that despite a near-zero repayment risk, DIP-loan all-in spread drawn averages 658 basis points- - nearly twice that of matched high-risk leveraged loans. Textual analysis of court documents shows lack of outside lender participation in the loan solicitation process but spreads are lower when outside lender interest is high. Junior claimants often contest DIP-loan terms but to little avail.

Keywords: debtor-in-possession financing; Chapter 11; loan spreads; loan fees; default risk; leveraged loans; relationship lending

JEL Classification: G14, G34