Debt Covenants, Agency Costs and Debt Maturity
44 Pages Posted: 20 Jun 2019
Date Written: June 14, 2019
Corporate debt maturity is a concave function of financial leverage when the debt has restrictive asset-based covenants attached. This concavity kicks in earlier with increasing covenant tightness and is absent when firms have no restrictive asset-based covenants. We argue that this concavity is suboptimal for equityholders and will arise if managers' prioritize maintaining firm control over reducing the firm's cost of capital. Managers of highly levered firm choose shorter-term debt (at a higher cost) to reduce the probability of covenant violation. We also find that maturity-leverage concavity is reduced when executive remuneration contracts better align managers and owners' interests.
Keywords: Debt Covenants, Debt Maturity, Leverage, Capital Structure, Agency Costs
JEL Classification: G32, G33, G34
Suggested Citation: Suggested Citation