Does director-level reputation matter? Evidence from bank loan contracting

Abstract

Abstract This paper investigates whether the reputation of non-CEO inside director matters in bank loan contracting. We posit that reputable inside directors (RIDs) can improve the quality of borrowers’ financial reporting and reduce agency risk in loan contracting. Based on a regression analysis of 5104 loan facilities during 1999–2007, we find that borrowers with RIDs enjoy lower loan interest rates and fewer restrictive covenants, and are less likely to have loans secured by collateral, than borrowers without RIDs. Our empirical results also show that RIDs help to obtain favorable loan terms mainly through alleviating ex-ante information asymmetry between borrowers and lenders. Further categorizing RIDs into CFO directors and other inside directors, we find that the effects of RIDs on loan spread and collateral requirements are significant for both CFO directors and other inside directors, while other inside directors have a more significant impact on financial covenants than CFO directors. Our findings are robust to controlling for RID characteristics and independent director reputation, and addressing the endogeneity concerns of RIDs, as well as the joint determination of various loan contracting terms.