An Empirical Examination of Privately Placed Debt

Abstract

Private placements of straight debt by publicly traded firms elicit a positive stock price reaction on average, consistent with a market perception that they confer significant certification and monitoring benefits on borrowers. However, long-run stock returns following the debt issues are significantly lower than benchmarks. Our results are consistent with the view that firms issue private debt prior to a decline in operating performance, and they disclose overly optimistic information in the pre-issue period which prevents information on the upcoming downturn from reaching the market in a timely manner. Lenders have inside information on the post-issue performance decline prior to their lending decision, and take steps to protect their investment which do not benefit equity investors. Our results are inconsistent with any certification and monitoring benefits accruing to equity investors from private non-bank debt.

Keywords: Debt, Private Placement

JEL Classification: M40, G14, G30