Post by Sapphire Capital on Jan 29, 2009 22:45:40 GMT 4
Borrower Conservatism and Debt Contracting
Jayanthi Sunder
Northwestern University - Kellogg School of Management
Shyam V. Sunder
Northwestern University
Jingjing Zhang
Northwestern University - Department of Accounting Information & Management
January 1, 2009
AAA 2009 Financial Accounting and Reporting Section (FARS) Paper
Abstract:
We study the role of past conservatism (i.e., realized conservatism) on debt contracting. We measure realized conservatism to isolate its effect from conditional conservatism which has been studied in the prior literature. Realized conservatism is the cumulative effect of past and current application of conditional conservatism and unconditional conservative accounting methods. It results in a lower bound valuation of the net assets of the borrower. We hypothesize that realized conservatism provides lenders greater confidence in the collateral value of the firm's assets and reduces the risk in the loan (Asset Value Hypothesis). Second, we hypothesize that realized conservatism constrains future conditional conservatism such that debt contracting efficiency is high only when the realized conservatism is not high (Constraint Hypothesis). Using a sample of bank loans we study interest spreads, covenant intensity and covenant slack and find results consistent with our hypotheses. Our study sheds light on the direct and indirect effects of realized conservatism in the ex ante design of loan contracts.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1328365_code13612.pdf?abstractid=1267504&mirid=1
Jayanthi Sunder
Northwestern University - Kellogg School of Management
Shyam V. Sunder
Northwestern University
Jingjing Zhang
Northwestern University - Department of Accounting Information & Management
January 1, 2009
AAA 2009 Financial Accounting and Reporting Section (FARS) Paper
Abstract:
We study the role of past conservatism (i.e., realized conservatism) on debt contracting. We measure realized conservatism to isolate its effect from conditional conservatism which has been studied in the prior literature. Realized conservatism is the cumulative effect of past and current application of conditional conservatism and unconditional conservative accounting methods. It results in a lower bound valuation of the net assets of the borrower. We hypothesize that realized conservatism provides lenders greater confidence in the collateral value of the firm's assets and reduces the risk in the loan (Asset Value Hypothesis). Second, we hypothesize that realized conservatism constrains future conditional conservatism such that debt contracting efficiency is high only when the realized conservatism is not high (Constraint Hypothesis). Using a sample of bank loans we study interest spreads, covenant intensity and covenant slack and find results consistent with our hypotheses. Our study sheds light on the direct and indirect effects of realized conservatism in the ex ante design of loan contracts.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1328365_code13612.pdf?abstractid=1267504&mirid=1