The Structure and Pricing of Corporate Debt Covenants

43 Pages Posted: 4 Dec 2003

See all articles by Michael Bradley

Michael Bradley

Duke University - Fuqua School of Business

Michael R. Roberts

The Wharton School - University of Pennsylvania; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: May 13, 2004

Abstract

We provide evidence on the covenant structure of corporate loan agreements. Building on the work of Jensen and Meckling (1976), Myers (1977) and Smith and Warner (1979), we summarize and test the implications for what we refer to as the Agency Theory of Covenants (ATC), using a large sample of privately placed corporate debt. Our results are consistent with many of the implications of the ATC, including a negative relation between the promised yield on corporate debt and the presence of covenants. We also find that borrower and lender characteristics, as well as macroeconomic factors, determine covenant structure. Loans are more likely to include protective covenants when the borrower is small, has high growth opportunities or is highly levered. Loans made by investment banks and syndicated loans are also more likely to include protective covenants, as are loans made during recessionary periods or when credit spreads are large. Finally, we show that consistent with the ATC, firms that elect to issue private rather than public debt are smaller, have greater growth opportunities, less long term debt, fewer tangible assets, more volatile cash flows and include more covenants in their debt agreements. An important byproduct of our analysis is to demonstrate empirically that covenant structure and the yield on corporate debt are determined simultaneously.

Keywords: Keywords: Bond Covenants, Costly Contracting hypothesis, Bank Loans, Corporate Debt, Agency Costs, Simultaneity

JEL Classification: G3, G32, G2

Suggested Citation

Bradley, Michael and Roberts, Michael R., The Structure and Pricing of Corporate Debt Covenants (May 13, 2004). Available at SSRN: https://ssrn.com/abstract=466240 or http://dx.doi.org/10.2139/ssrn.466240

Michael Bradley

Duke University - Fuqua School of Business ( email )

Box 90120
Durham, NC 27708-0120
United States
919-660-8006 (Phone)
919-660-7971 (Fax)

Michael R. Roberts (Contact Author)

The Wharton School - University of Pennsylvania; National Bureau of Economic Research (NBER) ( email )

3620 Locust Walk, #2320
Philadelphia, PA 19104-6365
United States
(215) 573-9780 (Phone)

HOME PAGE: http://finance.wharton.upenn.edu/~mrrobert/

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