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Please use this identifier to cite or link to this item:
http://hdl.handle.net/2451/31417
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| Title: | Covenant Violations, Loan Contracting, and Default Risk of Bank Borrowers |
| Authors: | Saunders, Anthony
Steffen, Sascha
Freudenberg, Felix
Imbierowicz, Bjorn |
| Issue Date: | 9-Jan-2012 |
| Series/Report no.: | FIN-11-042 |
| Abstract: | Are borrowers rewarded for repaying their loans? This paper investigates
the consequences of covenant violations on subsequent loans to the same
borrower using a hand-collected sample of US syndicated loans during the
1996 to 2010 period. We find that covenant violations have substantial
negative effects for borrowers in subsequent loans. Our results show
that the loan spread increases by 22 basis points in the loan following
the violation. We also find that the new contract includes more
financial covenants which are also more restrictive. Switching banks
after a violation does not reduce these effects and even leads to a
further increase in loan spreads. We also provide empirical evidence
that borrowers who have violated covenants in the previous contract are
significantly more likely to violate covenants again in the next loan.
Moreover, they violate earlier compared to borrowers who have not
violated covenants before. Most importantly, these borrowers also
exhibit a substantially higher likelihood to default, particularly in
the first 100 days after a violation. Our results suggest that there is
an important role for covenants in monitoring borrowers and that
covenant violations provide an early warning signal for a severe
deterioration of borrower credit quality. |
| URI: | http://hdl.handle.net/2451/31417 |
| Appears in Collections: | Finance Working Papers
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