Lower Loan Spreads Research Articles

Supply chain vertical common ownership and cost of loans

This study explores how vertical common ownership reduces supply chain risk and influences creditors' decisions, focusing on the cost of loans. Findings reveal that creditors view such firms as less likely to default, evidenced by lower loan spreads. This effect is stronger for suppliers with more relationship-specific investments, weaker bargaining power, higher information asymmetry, and long-term common institutional ownership. Results remain robust through quasi-natural experiments from financial institutions' M&As, supplier-customer pair analyses, etc. We also compare vertical common ownership with the horizontal one and demonstrate its incremental contributions. Moreover, the fraction of customer sales and the institutional investors' share ownership likely influence the likelihood of vertical common ownership, with our results consistently holding under Heckman analysis. Overall, the results suggest that vertical common ownership enhances coordination and monitoring, reducing risks and creditor risk premiums. The findings may offer valuable insights into managing supply chain risks and understanding their financial implications.

Bank loans and bond prices

We test whether bank loans change public bond yields. A 25% increase in bank debt raises bond yields by 8 bps, reflecting a trade-off between the benefits of bank cross-monitoring and higher bond risk. This effect is smaller for firms with no credit default swaps (CDSs) and with junk debt—scenarios where bank monitoring is most valuable. It is unlikely that firms with bank debt are riskier, because they are less likely to be downgraded and have lower loan spreads. We find similar results using a natural experiment around the 2014 oil shock. Our results highlight how bond yields depend on incentive conflicts among creditors.

Certification by financial and legal advisors in private debt markets

AbstractTheory predicts that certification by prestigious financial intermediaries signals investment quality. We provide a direct empirical test of certification by financial and legal advisors using data on large‐scale projects. We find that advisor effects are complementary: financial advisors allow firms to obtain longer loan maturities, while legal advisors (only if prestigious) help firms obtain greater leverage and lower loan spreads. We also document heterogeneity in observables: advisor effects vary across projects based on observable factors. Our results are consistent with firms hiring advisors to help them negotiate better loan agreements by conveying an absence of conflicts of interest.

The Corroboration Role of Management Earnings Forecasts in Private Loan Markets

Management earnings forecasts (MEFs) may reduce information risk by corroborating the inferences that lenders draw from their private communication with borrowers. Consistent with this idea, we find that among firms with a general policy of issuing MEFs, those providing MEFs in the 6 months before loan origination with a forecast horizon beyond the origination date enjoy lower loan spreads. The frequency and precision of MEFs are also negatively associated with loan spreads. The associations are stronger when lenders’ need for corroboration of their private information is expected to be greater. The associations are not driven by a firm’s general information environment, signaling of managerial ability, opportunistic disclosure, or competition between public and private debt markets. Moreover, the issuance, frequency, and precision of MEFs are associated with loan amounts more spread out among participating lenders, suggesting that MEFs also reduce information asymmetry within a loan syndicate. Our study provides insight into the corroboration role of publicly disseminated MEFs in private loan markets.

Do CEOs with academic experience add value to firms? Evidence on bank loans from Chinese firms

This study uses Chinese firms to show that CEOs with academic experience obtain bank loans with lower loan spreads, longer maturity, and fewer collateral requirements. They enhance goodwill of the firms (social capital and better-quality earnings reporting) and lower agency costs to reduce loan spread. Academic CEOs engage in a series of stewardship behaviors to improve financial performance. They play a critical role in determining the private debt contracts.

World prospers China: Chinese private firms with lending before the China–United States trade war

ABSTRACT This research investigates whether the National 13th Five-Year Plan of China and economic-political uncertainty affects Chinese private firms on bank loan spreads. First, we find that banks charge a significantly lower loan spreads during the period, and slightly reverse the effect with higher economic-political uncertainty. Second, the non-Chinese lenders during the period charge lower loan spreads than Chinese banks. Finally, for private firms with lending from non-Chinese banks, the borrowers without enough search record obtain a favoured bank loan spread, and facilitate Chinese firms for the loan purpose of capital expenditures during the period. Overall, global banks prosper Chinese private firms due to China’s stable national policies.

Greenwashing and Bank Loan Contracting: Does Environmental Disclosure Quality Matter to Creditors?

We provide novel evidence on the nexus between a firm’s symbolic environmental disclosure to present an overly responsible public image, i.e., greenwashing, and the structure and design of its bank-loan contracts. Our evidence indicates that while greenwashing is associated with lower loan spread, creditors use a complex contract design rather than a single price measure to extract an appropriate expected return from greenwashing firms. Specifically, lenders appear to charge higher fees and employ stricter non-price contract terms to upend the impact of lower spread on their bottom line. Our findings highlight a unique mechanism through which the superior monitoring and information processing capabilities of private lenders could be deployed as a governance mechanism to guard against greenwashing without stifling firms’ external financial access.

Audit Profession Development and Bank Loan Contracting

SUMMARY This study examines the relation between country-level audit profession development (APD) and bank loan contracting around the world. Using a sample of bank loan data from 35 countries, we find that stronger APD is associated with more favorable loan terms, such as lower loan spreads, fewer covenants, and larger loan amounts. These effects are stronger in countries with a weaker rule of law. We also find that stronger APD attracts significantly more lenders participating in loans and more foreign lenders leading loans. A breakdown of APD into three subcategories, namely, auditor education, auditor independence and liability, and auditor oversight, reveals that all three influence various contracting terms. We also provide evidence that stronger APD is associated with a higher degree of timely loss recognition. Collectively, our findings show that APD improves bank loan contracting terms. Data Availability: Data are publicly available from the sources mentioned in the manuscript. JEL Classification: F34; K20; M41; M42.

Unconventional monetary policy and bank risk taking

We analyze the presence of bank risk taking associated with unconventional monetary policy in the United States between 2008 and 2015 using corporate syndicated loan data at the bank-firm level. We measure monetary policy using the identification-through-heteroskedasticity approach with a VAR model. To identify the risk-taking channel we control for time-varying heterogeneity in credit demand and supply. Our results indicate that accommodating monetary conditions are associated with overall lower loan spreads. However, the spread reduction is lower for riskier firms, suggesting that there is no risk taking behavior in the syndicated loan market during the UMP period.

Do Better Managers Get Better Loan Contracts?

This paper examines the impact of managerial ability on bank loan contracting. We find that firms with higher ability managers obtain more favorable loan contract terms, such as lower loan spreads, less stringent covenants, and longer term maturity. Furthermore, the negative relation between managerial ability and loan spread is concentrated in firms with higher information asymmetry, higher default risk, or lower agency costs of debt. Finally, we find that managerial ability is positively related to firm future performance and negatively related to firm future default risk, indicating that managerial ability affects bank loan contracting via both valuation and information effects.

Are loans cheaper when tomorrow seems further?

This paper studies how future tense marking affects the terms of bank loans. We predict that languages that grammatically mark the future affect speakers’ intertemporal preferences and thereby reduce the perception of the risks associated with loan issuance. We test this hypothesis on a sample of 977 bank loans from 17 European countries. We observe that the use of a language with future tense marking is associated with lower loan spreads and lower collateral use in loan contracts. The results corroborate Chen (American Economic Review, 2013)’s hypothesis that future tense marking makes the future more distant than the present. They suggest that linguistic structure affects terms of loan contracts.

Labor unions and loan contracts

ABSTRACTThis paper investigates the relation between labor unions and loan contracting. We find that firms in more unionized industries tend to have lower loan spreads, longer maturity, a lower likelihood of security requirement, fewer and less strict loan covenants, and fewer performance- based covenants. Additionally, using firm-level union election data, we do not find lower loan spreads or longer maturity in unionized firms, but we show that bank loans to unionized firms are less likely to require security, have fewer and less strict loan covenants, and fewer performance-based covenants. While the results on loan spreads are mixed, we find consistent evidence that unionization has significant effect on loan covenants with industry and firm level unionization data as well as the instrument variable analysis. Labor unions’ risk preference is similar to that of creditors. Therefore, it helps align the interests between banks and labor unions, thus reducing the cost of bank loans in terms of loan covenants.

Friends with Values – The Impact of Reputable Lead Arranger and External Auditor on Borrower’s Loan Terms

This paper explores the certification effect of both reputable lead bank, and external auditor on various syndicated loan terms—the yield spread, loan maturity, amount, and the number of covenants. The results from two-way interaction model support significant positive certification effects. In the presence of Top 10 lead arrangers, borrowers benefit from lower loan spread, reduced number of financial covenants, extended maturity, and larger loan amount. The relationship with a reputable external auditor elevates the certification effect. The study extends prior literature by analyzing non-price terms. The results suggest that for informationally disadvantaged parties, dual certification seems to add value.

Bank Loans, Public Debt Offerings, and Corporate Cash Distribution after the 2008 Financial Crisis

We examine the effect of quantitative easing on the supply of bank loans and the issuance of corporate debts. During quantitative easing, lending banks demand significantly lower loan spreads, offer longer loan maturities, provide larger loans, and loosen covenants on firms whose long-term bond rating is lower than BBB, while bond investors do not loosen the requirement for riskier borrowers concurrently. Furthermore, we find that cash holdings obtained from debt financing decrease a firm’s value and increase its default risk when loan costs are relatively low. The results indicate that banks take greater risk during quantitative easing by relaxing lending standards to relatively riskier borrowers.

Inventory Policy Choice and Cost of Debt: A Private Debtholders’ Perspective

Prior research suggests that last-in-first-out (LIFO) inventory policy produces higher accruals quality than first-in-first-out (FIFO), leading to lower information risk for LIFO firms. Equity investors, in turn, price lower information risk by giving a premium to LIFO firms. Prior research also suggests that LIFO inventory policy, by understating aggregate earnings and net assets, creates hidden reserves that can be released to produce higher future earnings. Prior research, however, is silent on how debtholders price inventory policy choice. Focusing on private debtholders, we explore three research questions: (a) Do private debtholders price LIFO differently from FIFO? (b) If so, how does downside risk affect the pricing of LIFO? and (c) What is the underlying reason for the pricing effect, accounting quality, or hidden reserves? First, we find that LIFO is associated with a lower loan spread than FIFO. Not surprisingly, the pricing effect of LIFO is larger in high-inflation years than in other years. Second, we find that the pricing effect of LIFO is much larger for unrated firms than for rated firms. Third, we find that the negative association between LIFO and loan spread is driven primarily by hidden LIFO reserves rather than accounting quality. Overall, our evidence shows that inventory policy choice affects private debtholders’ pricing decisions, and this effect is primarily due to future earnings implications of hidden LIFO reserves.

Do Labor Conditions Matter in Loan Contracting? Evidence from Labor Specificity

In this paper, we offer the novel insight that debt contract design is affected by the redeployability of borrowers’ capital and labor assets. We find that borrowers with greater redeployability have enjoy favorable loan terms (i.e. a lower loan spread, fewer loan covenants, and a lower likelihood of being a secured loan). These findings suggest that redeployability mitigates lenders’ concerns about cost stickiness and financial distress, as supported by the supplementary evidence that redeployability is negatively associated with cost stickiness and financial distress risk. Further cross-sectional analyses show that lenders regard capital and labor redeployability as substitutes in setting loan terms, consistent with these two types of redeployability having similar functions in reducing post-contracting loan repayment problems. The positive effect of redeployability on favorable loan terms is also stronger for firms with more growth opportunities, consistent with lenders viewing redeployability as important for minimizing the restructuring costs should investments fail.

Are Loans Cheaper When Tomorrow Seems Further?

This paper studies how future tense marking affects the terms of bank loans. We predict that languages that grammatically mark the future affect speakers’ intertemporal preferences and thereby reduce the perception of the risks associated with loan issuance. We test this hypothesis on a sample of 2,601 bank loans from 20 European countries. We observe that the use of a language with future tense marking is associated with lower loan spreads and lower collateral use in loan contracts. The results corroborate Chen (American Economic Review, 2013)’s hypothesis that future tense marking makes the future more distant than the present. They suggest that linguistic structure affects terms of loan contracts.

Moral Hazard, Bank Monitoring, and Bond Spreads

We test whether bank loans change public bond yields. A 10% increase in bank debt raises bond yields by 15bps, reflecting a trade-off between the benefits of bank cross-monitoring and higher bond risk. This effect is smaller for firms with no CDS and junk debt, where bank monitoring is most valuable. It is unlikely that firms with bank debt are riskier because they are less likely to be downgraded and have lower loan spreads. We find similar results using a natural experiment around the 2014 oil shock. Our results highlight how bond yields depend on incentive conflicts among creditors.

Does meeting analysts’ forecasts matter in the private loan market?

Abstract Prior studies find that firms meeting or beating analysts’ earnings expectations (MBE) have higher equity valuation and lower bond yield spread. In contract to those studies which focus on public financial markets, this paper explores a firm’s MBE effect on its private loan terms, including price and non-price terms. We find that, despite the fact that banks possess superior information access and processing abilities that reduce information asymmetry costs for borrowers, they still impose more favorable price (i.e., lower loan spread) and non-price (longer loan maturity) terms for firms meeting expectations than for firms missing expectations. In addition, we find that the benefits of meeting expectations (i.e. lower loan spread and longer maturity) are more pronounced for financially distressed firms (habitual beaters) than financially sound firms (sporadic beaters). Further analyses document whether and how prospect theory can be used to explain differential loan terms.

Executive Stock Ownership Guidelines and Debtholder Wealth

ABSTRACT We examine how the adoption of executive stock ownership guidelines affects debtholder wealth. We find that guideline adoption is associated with lower loan spreads, fewer collateral requirements, and fewer other restrictive covenants. The results are robust to using an instrumental variables approach. We further find that guideline adoption has a negative effect on bond yield spreads and that after the adoption, firms' risk-taking incentives are lower. These results suggest that guideline adoption benefits debtholders by lowering agency costs of debt. However, we also find that adoption of ownership guidelines is associated with a significant increase in stock prices, and that firms are more likely to increase financial reporting quality in the post-adoption period, indicating that guideline adoption incentivizes managers to improve firm fundamentals, benefiting both shareholders and debtholders. JEL Classifications: G21; G32; M12; M41.