Stock and Bond Return Comovement as a Different Way to Assess Information Content: The Case of Debt Covenant Violation Disclosures

The importance of debt covenant violation is to minimize the debtholder default risk. The possibility of debtholder’s default risk may be caused by liquidity problems, low profitability, and bad quality of earnings. Hence, this study aims to proof the tendency of debtholder to violate debt covenants by measuring current ratio volatility, return on assets, and earnings quality as independent variables. By using five companies from construction and property sub-sector that listed on Indonesia Stocks Exchange in 2016- 2018, the data are analyzed with multiple linear regression model for panel data. From this study, we can conclude that the impact of return on assets to debt covenant violation is significantly negative, debtholders with poor financial performance have higher potential to do debt covenant violation. However, there is no evidence that debt covenant violation is affected current ratio volatility and earnings quality.

Download Full-text

Creditor Influence and CEO Compensation: Evidence from Debt Covenant Violations

The Accounting Review ◽

10.2308/accr-52013 ◽

2018 ◽

Vol 93 (5) ◽

pp. 23-50 ◽

Cited By ~ 4

Author(s):

Steven Balsam ◽

Yuqi Gu ◽

Connie X. Mao

Keyword(s):

Risk Taking ◽

Ceo Compensation ◽

Regression Discontinuity ◽

Firm Dynamics ◽

Debt Covenants ◽

Compensation Package ◽

Debt Covenant ◽

Debt Covenant Violation ◽

The Right ◽

Covenant Violations

ABSTRACT Debt covenant violation alters firm dynamics, providing creditors with the right to demand repayment, and via that right, influence firm actions. We provide evidence consistent with creditors employing that channel to influence CEO compensation. Using regression discontinuity analysis, we show that in the year after a covenant violation, after controlling for other factors, CEO compensation is 8.5 percent lower and the CEO's compensation package contains fewer risk-taking incentives, as the vega associated with newly granted options is 26 percent lower. These changes are more pronounced when the creditor has greater influence, such as when the borrower and creditor have a prior lending relationship, the creditor is a highly reputable bank, or when the borrower is financially weaker. We also find that CEOs' risk-taking incentives decrease with the number of debt covenants; in particular, the number of performance debt covenants being breached. JEL Classifications: G21; G34.

Download Full-text