The impact of contract enforcement efficiency on debt maturity structure using mathematical derivation and comparative static analysis

In recent years, the systematic use of advanced mathematical methods to express, study and argue economic theories has become an important branch and research hotspot in economics. The choice of debt maturity structure is an interesting economics issue in corporate finance. The signing of debt financing contract is not only the enterprises’ independent behavior, but also will be affected by the contract environment. Differences in the contractual environment will inevitably lead to differences in the efficiency of contract enforcement between borrowers and lenders in debt contracts. This paper introduces the contract enforcement efficiency factor on the basis of the standard structure model constructed by Holmstrom and Tirole, and then theoretically investigates the influence mechanism of contract enforcement efficiency on debt maturity structure based on the mediating role of contract enforcement efficiency on the investors’ liquidation claims. By transforming the financing contract into a linear programming problem, and then solving the optimization model, mathematical derivation and static comparative analysis, the research shows that as the efficiency of contract enforcement increases, the amount of short-term debt and long-term debt increases, while the direction change in debt maturity structure is uncertain and the specific relationship between them is closely related to the magnitude of all exogenous variables.

Private lenders' use of analyst earnings forecasts when establishing debt covenant thresholds

We examine whether lenders use analyst forecasts of the borrower's earnings as inputs when establishing covenant thresholds in private debt contracts. We find that, among debt contracts that include an earnings covenant, earnings thresholds are set closer to analyst forecasts when analysts have historically issued more accurate earnings forecasts. These results are robust to firm fixed effects and an instrumental variable approach. Further, we find that, following a plausibly exogenous decline in the availability of analyst earnings forecasts, debt contracts are less likely to include earnings covenants. Our evidence is consistent with lenders using analyst earnings forecasts as an input when establishing debt covenant thresholds and suggests sell-side analysts play a role in debt contracting.

Neutralizing currency risk in procurement via hedging

The article discusses the concept of currency risk arising in foreign trade procedures and defines currency risk types: operational, translational, economic and hidden risks. The main factors influencing exchange rate are determined: level of inflation, interest rates in different countries, state of current accounts, amount of public debt, terms of trade and political stability. Methods of assessing currency risk using the Value-at-Risk methodology are presented: historical modeling, variancecovariance model, Monte Carlo modeling. Exchange-traded and overthe-counter currency risk management tools, such as options, futures, forwards, swaps, debt contracts, and natural hedging methods, are described in detail. Practical examples of using these tools to neutralize currency risk are also given.

The impact of simultaneous holdings of equity and debt on financial covenants in debt contracts

Purpose The purpose of this study is to examine the effects of non-commercial banking institutions’ simultaneous holdings of equity and debt in the same firm (hereafter, dual holdings) on financial covenants in debt contracts. Design/methodology/approach By using the DealScan database, this study tests how dual holdings affect the number of financial debt covenants. Findings This study finds that the presence of dual holders is positively associated with the number of financial covenants in general, suggesting that the use of financial covenants is reduced when the interests between shareholders and creditors are aligned. This study also finds that dual holder participation does not reduce the number of financial covenants in leveraged loans as much as it does in investment-grade loans. Additionally, when a dual holder has a large portion of equity stakes and loan claims in a borrowing firm, the effect of dual holdings on financial covenants is more pronounced. Originality/value This study contributes to debt market research by showing that dual holder participation reduces the number of financial covenants in debt contracts.

Corporate Bankruptcy and Directors’ Reputation: An Empirical Analysis of the Effects on Public Debt Contracts

This article investigates the link between board members’ past professional experiences and the terms and conditions of the debt contracts of their current firms. In particular, we examine whether directors’ past bankruptcy experience affects the pricing and nonpricing terms of public debt contracts. Using a sample of 8,142 bond issues in the United States in the period 1995 to 2015, we document higher credit spreads and smaller bond sizes for firms with such directors, suggesting that bondholders are concerned about past bankruptcy experience. Our results remain robust to different model specifications. This effect is moderated for bankruptcies that are likely driven by macroeconomic shocks such as the dotcom bubble and the global financial crisis. We also show that our findings are not explained by bond issuers with an elevated risk of default and seem instead to be driven by directors serving on key monitoring committees, indicating that prior bankruptcy experience raises concerns about the company’s corporate governance. Finally, mediation analysis offers some evidence of a limited negative indirect effect of prior bankruptcy experience on the terms of debt contracts through the firm’s financial and investment policies. Overall, our findings suggest that lenders incorporate information about past professional experiences of directors into public debt contracting.

The Rise of Covenant-Lite Bond Contracting

We investigate the trading and yield effects of covenant-lite (cov-lite) high-yield bond contracts, which have a restricted (lite) set of covenants. The excluded covenants often are those that use accounting performance measures. Although much research has focused on the potential benefits of accounting as a basis for debt contracting, little is known about settings where it may be optimal to exclude accounting performance statistics from public debt contracts. We find that cov-lite high-yield bonds have a higher trading turnover and lower yield spreads. Our findings provide empirical support for theory, which predicts, for optimal bond covenant design, that a trade-off between improving trading ease versus enhanced investor protection needs to be managed. These results enhance our understanding of the limits of accounting’s role in (bond) contracting design.

Sustainable debt

We show that debt is sustainable at a competitive equilibrium based solely on the reputation for repayment; that is, even without collateral or legal sanctions available to creditors. In an incomplete asset market, when the rate of interest falls recurrently below the rate of growth of the economy, self‐insurance is more costly than borrowing, and repayments on loans are enforced by the implicit threat of loss of the risk‐sharing advantages of debt contracts. Private debt credibly circulates as a form of inside money, and it is not valued as a speculative bubble. Competitive equilibria with self‐enforcing debt exist under a suitable hypothesis of gains from trade.

Asset Specificity and the Secondary Market for Productive Assets

The aim of this paper is to explore how debt contracts are affected by investment in asset specialization and by the dynamics of the secondary market for collateralized productive assets. Before applying for a loan, financially constrained firms face a specificity trade-off: asset specialization increases firms’ project returns, but decreases the liquidation value of assets in the secondary market if the firm is in financial distress. To study this trade-off, the paper uses a theoretical model in which the choice of asset specificity and the outcome of the secondary market for distressed firms’ assets are endogenous. High redeployability costs and a small number of participants in the secondary market are associated to low recovery values and to a high cost of debt. The paper shows the conditions under which financial constraints reduce firms’ incentive to invest in asset specificity.