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Jointness of Loan Contract Terms, Information Asymmetries, and Lending Relationships Pham Phu Quoc BEcon (Banking) – Banking University of Ho Chi Minh City, Vietnam MA (Economics) – University of Colombo, Sri Lanka An independent thesis submitted in fulfilment of the requirements for the degree of Doctor of Philosophy Department of Accounting and Finance Faculty of Business and Economics Monash University November 2012 download by : skknchat@gmail.com TABLE OF CONTENTS TABLE OF CONTENTS LIST OF TABLES ABBREVIATIONS ABSTRACT STATEMENT OF AUTHORSHIP ACKNOWLEDGEMENTS CHAPTER - INTRODUCTION 1.1 INTRODUCTION 1.2 BACKGROUND 1.2.1 Information Asymmetries 1.2.2 Lending Process 1.2.3 Loan Contract Terms 1.2.4 Borrower Information and Lending Relationships 1.3 MOTIVATIONS AND RESEARCH QUESTIONS 1.3.1 Jointness of Loan Contract Terms 1.3.2 Information Asymmetries and Loan Contract Terms 1.3.3 Lending Relationships and Loan Contract Terms 1.4 RESEARCH OBJECTIVES AND HYPOTHESES 1.5 DATA, METHODOLOGY, AND EMPIRICAL FINDINGS 1.5.1 Data 1.5.2 Methodology 1.5.3 Empirical Findings 1.6 CONTRIBUTIONS 1.7 IMPLICATIONS 1.8 STRUCTURE OF THE THESIS CHAPTER - LITERATURE REVIEW 2.1 INTRODUCTION 2.2 THEORY AND EVIDENCE ON LOAN TERM RELATIONS 2.2.1 Relations between Loan Contract Terms 2.2.2 Jointness of Loan Contract Terms (Hypotheses for RQ1) 2.3 INFORMATION ASYMMETRIES AND CONTRACT TERMS 2.3.1 Information Asymmetries and Loan Terms 2.3.2 Loan Term Trade-Offs and Information Asymmetries 2.3.2.1 Loan Size Selection, Given Loan Term Jointness 2.3.2.2 Covenant Choice, Given Loan Term Jointness 2.3.2.3 Loan Price, Collateral, and Maturity Choice, Given Loan Term Jointness 2.3.2.4 Hypotheses for RQ2 2.4 LENDING RELATIONSHIPS AND LOAN TERMS 2.4.1 Lending Relationship Concepts 3.4.1.1 Lending Relationships ii download by : skknchat@gmail.com ii vi viii ix xii xiii 1 2 4 5 11 15 15 16 17 20 22 24 25 25 25 25 33 36 36 39 39 42 43 43 45 45 45 3.4.1.2 Lending Relationship Measures Literature on Lending Relationships and Loan Terms Hypotheses for RQ3 2.4.3.1 Impact of Lending Relationships on Loan Covenants 2.4.3.2 Impact of Lending Relationships on Loan Size 2.4.4 Hypotheses for RQ4 2.5 CHAPTER SUMMARY CHAPTER - DATA AND METHODOLOGY 3.1 INTRODUCTION 3.2 DATA AND SAMPLE 3.2.1 Data Sources 3.2.2 Database Characteristics 3.2.2.1 DealScan’s Information Sources 3.2.2.2 DealScan’s Deal and Facility Classifications 3.2.2.3 Searching DealScan Borrower Information from Compustat 3.2.2.4 Reporting Year Inconsistencies between DealScan and Compustat 3.2.2.5 Potential Misidentification of Lender and Borrower Names 3.2.3 Revolving and Term Loans 3.2.4 Sample Units, Sampling Procedures, and Composition 3.3 METHODOLOGY FOR RQ1, RQ2, AND RQ3 3.3.1 Model Specification 3.3.2 Estimation Methods 3.4 METHODOLOGY FOR RQ4 3.4.1 Model Specification 3.4.2 Estimation Methods 3.5 ROBUSTNESS TESTS 3.5.1 Different Proxies for Information Asymmetries 3.5.2 Alternative Measures of Lending Relationship 3.5.3 Endogeneity of Loan Type Selection 3.6 CHAPTER SUMMARY CHAPTER - VARIABLES AND DESCRIPTIVE STATISTICS 4.1 INTRODUCTION 4.2 VARIABLES 4.2.1 Loan Contract Terms 4.2.1.1 Loan Price 4.2.1.2 Collateral 4.2.1.3 Maturity 4.2.1.4 Covenants 4.2.1.5 Loan Size 4.2.1.6 Other Loan Characteristics 4.2.2 Lender Characteristics 4.2.3 Borrower Characteristics 2.4.2 2.4.3 iii download by : skknchat@gmail.com 46 47 52 53 54 55 57 60 60 60 60 62 62 62 63 64 65 66 68 71 72 75 82 82 83 85 85 85 86 90 92 92 92 92 93 93 95 95 98 99 101 102 4.2.3.1 Information Asymmetries 4.2.3.2 Lending Relationships 4.2.3.3 Other Borrower Characteristics 4.2.4 Macroeconomic Factors 4.3 DESCRIPTIVE STATISTICS AND CORRELATION ANALYSIS 4.3.1 Descriptive Statistics 4.3.2 Correlation Analysis 4.4 CHAPTER SUMMARY CHAPTER - EMPIRICAL RESULTS 5.1 INTRODUCTION 5.2 EMPIRICAL RESULTS FOR RQ1 5.2.1 Results for H1.1 5.2.2 Results for H1.2 and H1.3 5.2.3 Summary of Hypothesis Testing for RQ1 5.3 EMPIRICAL RESULTS FOR RQ2 5.3.1 Results for H2.1 5.3.2 Results for H2.2 5.3.3 Results for H2.3 5.3.4 Results for H2.4 5.3.5 Results for H2.5 5.3.6 Summary of Hypothesis Testing for RQ2 5.4 EMPIRICAL RESULTS FOR RQ3 5.4.1 Results for H3.1 5.4.2 Results for H3.2 5.4.3 Summary of Hypothesis Testing for RQ3 5.5 EMPIRICAL RESULTS FOR RQ4 5.5.1 Results for H4.1 5.5.2 Results for H4.2 5.5.3 Results for H4.3 5.5.4 Results for H4.4 5.5.5 Summary of Hypothesis Testing for RQ4 5.6 RESULTS FOR CONTROL VARIABLES AND ROBUSTNESS TESTS 5.6.1 Results for Control Variables 5.6.2 Robustness Tests of the Hypotheses for RQ1, RQ2, RQ3, and RQ4 5.6.2.1 Other Information Asymmetry Proxies 5.6.2.2 Alternative Lending Relationship Measures 5.6.2.3 Endogeneity of Loan Type Selection 5.7 CHAPTER SUMMARY CHAPTER - CONCLUSION 6.1 INTRODUCTION 6.2 REVIEW OF RESEARCH QUESTIONS, HYPOTHESES, AND FINDINGS 6.2.1 RQ1: Are loan contract terms (i.e., price, collateral, maturity, covenants, and size) simultaneously determined? 6.2.2 RQ2: Given their jointness, are loan terms (i.e., price, collateral, iv download by : skknchat@gmail.com 102 106 109 116 122 122 128 129 130 130 130 131 133 142 144 145 146 146 147 148 149 151 152 152 153 154 157 158 158 159 159 161 162 162 162 163 163 164 166 166 166 168 170 maturity, covenants, and size) traded off when addressing borrower information asymmetries? 6.2.3 RQ3: Given the jointness of loan terms, lending relationships affect loan covenants and size? 6.2.4 RQ4: Given the jointness of loan terms, borrowers with higher information asymmetries benefit from better price and non-price terms from their relationship lenders? 6.3 CONTRIBUTIONS 6.4 IMPLICATIONS 6.5 LIMITATIONS 6.6 FUTURE RESEARCH DIRECTIONS REFERENCES APPENDIX A - SELECTED LOAN DATA CHARACTERISTICS APPENDIX B - EXPECTED SIGNS OF VARIABLES APPENDIX C - CORRELATION MATRIX FOR REVOLVING AND TERM LOANS APPENDIX D - FIRST STAGE REGRESSION FOR THE RQ1, RQ2, AND RQ3 MODEL APPENDIX E - FURTHER ANALYSIS ON THE RQ1, RQ2, AND RQ3 MODEL E.1 MULTICOLLINEARITY DETECTION E.2 LOAN TERM RELATIONS E.3 LENDING RELATIONSHIP IMPACT ON LOAN TERMS E.4 RESULTS OF CONTROL VARIABLES APPENDIX F - ROBUSTNESS TESTS FOR RQ1, RQ2, AND RQ3 F.1 DIFFERENT PROXIES FOR INFORMATION ASYMMETRIES F.2 ALTERNATIVE MEASURES OF LENDING RELATIONSHIPS F.3 ENDOGENEITY OF LOAN TYPE SELECTION APPENDIX G - DETAIL ESTIMATES RELATED TO THE RQ4 MODEL APPENDIX H - ROBUSTNESS TESTS FOR RQ4 H.1 DIFFERENT PROXIES FOR INFORMATION ASYMMETRIES H.2 ALTERNATIVE MEASURES OF LENDING RELATIONSHIPS H.3 ENDOGENEITY OF LOAN TYPE SELECTION v download by : skknchat@gmail.com 171 172 173 177 179 181 184 218 224 226 234 238 238 242 245 247 250 250 267 288 294 298 298 315 336 LIST OF TABLES Table 1.1 Table 2.1 Table 2.2 Table 2.3 Table 2.4 Table 2.5 Table 3.1 Table 3.2 Table 3.3 Table 3.4 Table 3.5 Table 4.1 Table 4.2 Table 4.3 Table 5.1 Table 5.2 Table 5.3 Table 5.4 Table 5.5 Table 5.6 Table 5.7 Table 6.1 Table A1 Table A2 Table A3 Table A4 Table B1 Table C1 Table D1 Table E1 Table F1 Prior studies on loan term jointness Relations between the pairs of loan terms Summary of the effects of information asymmetry on individual loan terms Summary of information asymmetry effects on loan terms, given their jointness Summary of prior studies on the impact of the lending relationship on loan terms Summary of the four research questions and their hypotheses Summary of data sources An example of the contract terms of different facilities in a deal Sample selection process Testing procedures for the hypotheses associated with RQ1, RQ2, and RQ3 Testing procedure for the hypotheses associated with RQ4 Financial and general covenants List of variables and their definitions and data sources Descriptive statistics and difference test results for revolving and term loans DWH statistics for exogeneity tests Second-stage regression results Summary of test results for the hypotheses related to RQ1 Summary of test results for the hypotheses related to RQ2 Summary of test results for the hypotheses related to RQ3 Summary of the interaction impacts of information asymmetries and lending relationship on loan terms Summary of test results for the hypotheses related to RQ4 Research questions, related hypotheses and results Distributions of loan types and loan distribution methods from 1987 to 2009 Distribution of loan covenants from 1987 to 2009 Differences between loans with and without collateral information Comparison of loan terms and firm characteristics in initial and final samples Expected signs of variables used in Equations 3.11 – 3.15 Correlation matrix for revolving and term loans First stage regression for the model related to RQ1, RQ2, and RQ3 VIF values for independent variables in Equations 3.11 – 3.15 Second stage regression results for RQ1, RQ2, and RQ3 with information asymmetries proxied by LN(FIRMAGE) vi download by : skknchat@gmail.com 27 37 39 48 59 61 63 70 80 84 96 118 123 132 135 143 150 153 156 160 167 219 220 221 222 224 226 235 239 251 Table F2 Table F3 Table F4 Table F5 Table F6 Table F7 Table F8 Table F9 Table F10 Table F11 Table G1 Table H1 Table H2 Table H3 Table H4 Table H5 Table H6 Table H7 Table H8 Table H9 Table H10 Second stage regression results for RQ1, RQ2, and RQ3 with information asymmetries proxied by R&D Second stage regression results for RQ1, RQ2, and RQ3 with information asymmetries proxied by FCSTERROR Second stage regression results for RQ1, RQ2, and RQ3 with information asymmetries proxied by DISPERSION Second stage regression results for RQ1, RQ2, and RQ3 with lending relationships measured by REL(A) Second stage regression results for RQ1, RQ2, and RQ3 with lending relationships measured by REL(N) Second stage regression results for RQ1, RQ2, and RQ3 with lending relationships measured by REL(D)_3YEAR Second stage regression results for RQ1, RQ2, and RQ3 with lending relationships measured by REL(A)_3YEAR Second stage regression results for RQ1, RQ2, and RQ3 with lending relationships measured by REL(N)_3YEAR Logit estimation of revolving loan selection (Equation 3.16) Second stage regression results for RQ1, RQ2, and RQ3 after controlling for the endogeneity of loan type selection Results for interaction impacts of information asymmetries and lending relationship on loan terms Second stage regression results for RQ4 with information asymmetries proxied by LN(FIRMAGE) Second stage regression results for RQ4 with information asymmetries proxied by R&D Second stage regression results for RQ4 with information asymmetries proxied by FCSTERROR Second stage regression results for RQ4 with information asymmetries proxied by DISPERSION Second stage regression results for RQ4 with lending relationships measured by REL(A) Second stage regression results for RQ4 with lending relationships measured by REL(N) Second stage regression results for RQ4 with lending relationships measured by REL(D)_3YEAR Second stage regression results for RQ4 with lending relationships measured by REL(A)_3YEAR Second stage regression results for RQ4 with lending relationships measured by REL(N)_3YEAR Second stage regression results for RQ4 after controlling for the endogeneity of loan type selection vii download by : skknchat@gmail.com 255 259 263 268 272 276 280 284 289 290 294 299 303 307 211 316 320 324 328 332 337 ABBREVIATIONS 2S CPI CRSP DWH EBITDA ENSR FFIEC GVKEY H IA I/B/E/S LIBOR LPC IPO LBO MBO NIC NSSBF OLS REL RQ RSSD ID SEC SFE SIC SSBF U.K U.S VIF WRDS Two-Stage Consumer Price Index Center for Research in Security Prices Durbin–Wu–Hausman Earnings Before Interest, Taxes, Depreciation and Amortization European Network for SME Research Federal Financial Institutions Examination Council Global Company Key Hypothesis Information Asymmetries Institutional Brokers' Estimate System London Interbank Offered Rate Loan Pricing Corporation Initial Public Offering Leveraged Buyout Management Buy-out National Information Center National Survey of Small Business Finances Ordinary least squares Lending Relationship Research Question Replication Server System Database Identification Securities and Exchange Commission Survey of the Financial Environment Standard Industrial Classification Survey of Small Business Finances The United Kingdom The United States of America Variance Inflation Factor Wharton Research Data Services viii download by : skknchat@gmail.com ABSTRACT This thesis shows that five key loan contract terms – price, collateral, maturity, covenants, and size – are jointly determined and investigates how lenders and borrowers trade these off to address information asymmetries It further examines whether prior lending relationships affect loan covenants and size and whether borrowers with higher information asymmetries obtain better loan terms from their relationship lenders Since revolving and term loans differ in their characteristics, these issues are examined for the two loan types separately The sample consists of 17,636 revolving and 6,625 term loans made by banks operating in the United States to U.S non-financial firms from January 1994 to 31 December 2009 A system of five simultaneous equations is used to examine loan term jointness It also provides coefficients for an information asymmetry proxy and a lending relationship measure to examine how loan terms are used to address information asymmetries as well as whether prior lending relationships impact loan covenants and size This model is modified by adding a product of the information asymmetry and lending relationship measures and then used to investigate if borrowers with higher information asymmetries obtain better terms from their relationship lenders The empirical results show all five key loan terms are jointly determined For revolving loans, high information asymmetry borrowers pay higher prices, are more likely to be required to provide collateral, and accept shorter maturities in return for obtaining larger loans with fewer covenants For term loans, such borrowers pay higher prices and are more likely to pledge collateral in return for larger loans Those ix download by : skknchat@gmail.com borrowers with prior lending relationships accept more covenants but obtain larger loans for both two loan types Borrowers with higher information asymmetries, however, obtain neither lower prices nor more favourable non-price terms from their relationship lenders This thesis makes several academic contributions It extends other studies (e.g., Dennis, Nandy, and Sharpe, 2000) to include covenants and loan size as key loan contract terms and finds that all five loan terms are jointly determined Moreover, this study is the first to provide evidence that borrowers and lenders trade off loan terms when addressing borrower information asymmetries It is also the first to show that borrowers accept more covenants but obtain larger amounts from their relationship lenders It augments the work of Bharath, Dahiya, Saunders, and Srinivasan (2011) by examining both price and non-price terms in a simultaneous equation model across revolving and term loans but finds no evidence that borrowers with higher information asymmetries obtain better loan terms from their relationship lenders Regarding methodology, this work extends prior studies by using a system of simultaneous equations to mitigate potential simultaneity problems, considering differences between revolving and term loans and obtaining different findings across these loan types This study reveals the endogeneity of loan selection and addresses the problem by using the borrower GVKEY and lender RSSD ID in the sampling selection to trace back prior lending relationships, thus improving the accuracy of the results x download by : skknchat@gmail.com ... lending relationships on loan price, collateral, and maturity and not on loan covenants and size Of studies on lending relationships and loan terms, only that of Alexandre et al (2011) examines lending. .. 2.3 INFORMATION ASYMMETRIES AND CONTRACT TERMS 2.3.1 Information Asymmetries and Loan Terms 2.3.2 Loan Term Trade-Offs and Information Asymmetries 2.3.2.1 Loan Size Selection, Given Loan Term Jointness. .. 1.3.2), and lending relationships and loan contract terms (Section 1.3.3) 1.3.1 Jointness of Loan Contract Terms Lenders and borrowers negotiate their loan terms as a ‘package’ to obtain ‘optimal’ contracts
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