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Two Essays on Lending and Monitoring

Prilmeier, Robert
http://rave.ohiolink.edu/etdc/view?acc_num=osu1366124597

Abstract Details

, Doctor of Philosophy, Ohio State University, Business Administration.
In this dissertation, I first contribute to our understanding of why optimal loan contracts include covenants and how trade-offs between monitoring costs, hold-up costs, and information asymmetries determine the level of covenant protection given to creditors. Second, I investigate if and how monitoring choices are affected by corporate loan securitization. Finance theory offers two channels through which covenants become part of an optimal debt contract. One theory argues that covenants make the lender's payoff contingent on monitoring the borrower and thereby create monitoring incentives. However, having one lender that monitors can be costly since that lender may be able to extract rents when the borrower violates a covenant. The second theory considers information asymmetries between borrowers and lenders and predicts that creditors should protect themselves by demanding strong covenants when they do not know the borrower well. I test these theories comprehensively using a novel identification approach based on lending relationships. Using a large dataset of syndicated loans originated in the US over the period from 1995-2008, I find that borrowers trade off monitoring benefits with covenant-created hold-up costs, such that the effect of lending relationship intensity on the number of covenants included in a loan follows an inverted U shape. The curvature of the inverted U depends on the borrower's bargaining power and the extent to which covenant benefits accrue exclusively to the originating bank. Consistent with covenant tightness addressing information asymmetry concerns, tightness is relaxed over the course of a relationship. In my second essay, I assess the effect of corporate loan securitization on lenders' monitoring efforts. In a corporate loan securitization, fractions of syndicated loans are bundled into a collateralized loan obligation (CLO), against which several tranches of securities are issued to the ultimate investors. For these investors the benefits of monitoring the underlying loans will be small relative to the costs of doing so. To the extent that the originating bank can offload credit risk to the CLO investors, the bank's incentive to screen and monitor borrowers may be limited. However, CLO investors may recognize this problem and demand stronger contractual protection. Using a sample of securitized and unsecuritized loans that were originated between January 2002 and June 2007, I find that securitization does not seem to affect the number or tightness of a loan's financial covenants. Securitized loans have longer maturities, but have more non-financial covenants and are more likely to require collateral. There is no consistent evidence that increases in institutional lenders' demand for loans reduce the strictness of loan contracts. Borrowers of securitized loans are no more likely to violate a covenant than other borrowers. Shareholder payouts decline more strongly for violators with securitized loans, while sanctions on debt capacity and interest rates are similar for both groups. Overall, the results suggest that the unique setup of the syndicated loan market prevents many of the problems that can occur in residential mortgage securitizations.
René Stulz (Advisor)
Michael Weisbach (Committee Member)
Isil Erel (Committee Member)
Banking; Finance
covenants; monitoring incentives; syndicated loans; lending relationships; securitization

Recommended Citations

Citations

  • Prilmeier, R. (n.d.). Two Essays on Lending and Monitoring [Doctoral dissertation, Ohio State University]. OhioLINK Electronic Theses and Dissertations Center. http://rave.ohiolink.edu/etdc/view?acc_num=osu1366124597

    APA Style (7th edition)

  • Prilmeier, Robert. Two Essays on Lending and Monitoring. Ohio State University, Doctoral dissertation. OhioLINK Electronic Theses and Dissertations Center, http://rave.ohiolink.edu/etdc/view?acc_num=osu1366124597.

    MLA Style (8th edition)

  • Prilmeier, Robert. "Two Essays on Lending and Monitoring." Doctoral dissertation, Ohio State University. Accessed APRIL 19, 2024. http://rave.ohiolink.edu/etdc/view?acc_num=osu1366124597

    Chicago Manual of Style (17th edition)

osu1366124597
756
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