Concentration of Control Rights in Leveraged Loan Syndicates

Abstract

Corporate loan contracts frequently concentrate control rights with a subset of lenders. In a large fraction of leveraged loans, which typically include a revolving line of credit and a term loan, the revolving lenders have the exclusive right and ability to monitor and renegotiate the nancial covenants in the governing credit agreements. Concentration is more common in loans that include nonbank institutional lenders and in loans originated subsequent to the nancial crisis, when recognition of bargaining frictions increased. We conclude that concentrated control rights maintain the benets of lender monitoring and minimize the costs of renegotiation associated with larger and more diverse lending syndicates.

Securities Laws, Bank Monitoring, and the Choice Between Cov-lite Loans and Bonds for Highly Levered

“…Though we show the importance of legal considerations in firms' loan and bond issuance decisions, we do not imply that other considerations raised in the literature are not relevant and provide further support for the role of some of these considerations. In particular, our evidence that cov-heavy loans have higher credit spreads than cov-lite loans for private firms is supportive of theories that covenants may have adverse selection costs for investors (Parlour and Plantin (2008)), that covenants may be costly because of coordination costs (Becker and Ivashina (2017)), and that monitoring may be better allocated to tranches of loans that do not involve institutional investors (Berlin, Nini, and Yu (2020)).…”

“…They find results that are strongly supportive of the coordination cost hypothesis. Berlin, Nini, and Yu (2020) investigate a large set of levered loan contracts. Like Becker and Ivashina (2017), they conclude that cov-lite loans reduce renegotiation frictions.…”

“…With cov-lite loans, institutional lenders have less information than with cov-heavy loans because they do not monitor maintenance covenants. Although banks could hold a cov-heavy tranche issued by the same borrower so that monitoring benefits still apply (Berlin, Nini, and Yu, 2020), the banks do not participate in trading the institutional tranche, except potentially as market makers. With this structure, institutional investors have no incentive to monitor the lender, so that they do not have to expend monitoring costs.…”

“…In contrast, the lack of maintenance covenants with cov-lite loans reduces the adverse selection problem that results from the lenders being better informed and hence increases the liquidity of the loans. To the extent that institutional cov-lite loans are often accompanied by a bank-held cov-heavy loan in the issuer's capital structure (Berlin, Nini, and Yu, 2020), cov-lite issuance does not necessarily result in less bank monitoring. However, monitoring is costly.…”

Time Inconsistency and Financial Covenants

“…5 Chava and Roberts (2008), Roberts and Sufi (2009a), Sufi (2009, 2012), Chava, Fang and Prabhat (2015), Falato and Liang (2016), Chodorow-Reich and Falato (2017) and Ferreira, Ferreira and Mariano (2018) focus on studying how firm behavior is altered after financial covenants are violated ex post. Billett, King and Mauer (2007), Sufi (2007), Drucker and Puri (2009), Demiroglu and James (2010), Hollander and Verriest (2016) and Prilmeier (2017) document how covenant usages vary across firms while Becker and Ivashina (2016) and Berlin, Nini and Yu (2018) investigate the recent covenant-light structure in leveraged loans. Green (2017) utilizes a revealed preference approach to structurally estimate the value of bond covenants for speculatively graded firms.…”