1

Does the renegotiation of financial contracts matter for firm value?Empirical evidence from Europe

Christophe J. GodlewskiUHA & EM Strasbourg (LaRGE Research Center)

BOFIT Seminar, January 2014, Helsinki

1. Summary

2. Literature & hypotheses

3. Empirical strategy

4. Results

5. Discussion

Outline

2

3

Summary• Stock market reaction to bank loan renegotiation• Event study using 465 loan amendments (25 European countries,

01/1999 - 06/2011)• Univariate and multivariate analysis

• Amendments’ characteristics• Loan terms at origination• Borrower characteristics• Country characteristics

• Main results• Major amendments: maturity and amount• Substantial changes: tranche +100 MLN USD; maturity +1.5 years• European firm renegotiates less frequently but early in the life of the loan

(vs. US)• Financial covenants and loan amount renegotiation => CAR +10% ~ 15%• Late and frequent renegotiations => CAR < 0

4

5

Literature• Renegotiation of financial contracts and bank lending certification (in theory)• Incomplete contracts framework (Hart and Moore 1998)• Shock to firm alters:

- allocation of bargaining power b/w borrower and lender- sharing ex post surplus from initial contract

• Design of financial contracts = allocation of bargaining power• Renegotiation = consequence of new information + shift in bargaining power• Better informed borrowers yield control rights to less informed lender (Dessein

2005; Garleanu and Zwiebel 2009)

• Banks efficient in evaluating, screening and monitoring borrowers (Diamond 1984, 1991; Fama 1985)

• Banks produce private information on borrowers => bank loan announcement = valuable information for the market => certification value (James 1987…)

6

Literature (cont.)• Renegotiation of financial contracts (in practice)• Consequence of the restrictiveness of the initial contract / costly

process• Scarce empirical evidence (Roberts and Sufi 2009; Roberts 2012;

Nikolaev 2013)• Credit agreements frequently amended, early in the life of the loan• Large changes in loan terms following new information• Renegotiation = modification of contractual constraints (IA) =>

«complete» / «efficient» contracting over time => signals the accrual of new information => significant AR => decreasing IA in the borrower-lender relationship => positive AR => good / bad schock & good / bad new information => + / - AR => early vs. late & frequent vs. rare amendments => + / - AR

7

Empirical strategy• Methodology• Standard event study to compute abnormal returns• Multi-event and multi-country setting• Modified market model (Fuller et al. 2002)• Use local-currency national market indexes (Campbell et al. 2010)• Bank loan renegotiation date = event date (day 0)• Excluding contaminated and clustered events• Compute three-day period CAR (-1,1)• Univariate analysis relies on t-tests• Multivariate analysis relies on OLS (robust s.e. clustered at borrower level) :

8

Empirical strategy (cont.)• Data• Characteristics of bank loan amendments + loan terms at origination

from Bloomberg• Borrower balance sheet variables + stock prices + market indices from

Factset• Country variables from Djankov et al. (2007) & Cihak et al. (2012)• 393 companies; 465 loan facilities (883 tranches); 25 countries;

1/1/1999-30/6/2011• 75% of renegotiations in 2009-2010• UK + FR + NL + DE + ES = 61% of sample• Other descriptive statistics: see Tab. 2

9

Results

Borrowed Amount Borrowing Base AmountCovenant Financial Covenant Non FinancialDefinition Change Facility AmountLOC Amount Loan FeeMaturity Change Outstanding AmountPrepay Amount Pricing GridTranche Amount

Breakdown of loan amendment types + Distribution of renegotiations by borrower and by loan tranche

1 2 3 4 5 6 70

10

20

30

40

50

60

70

80

90

Renegotiation path counter (by borrower)Renegotiation path counter (by tranche)

Counter

Perc

enta

ge

10

Results (cont.)Univariate results for loan amendments and terms at origination (significant results at 5% only; pairwise tests using median)

Variable mean CAR(-1,1) t-test

Covenant Financial 14.3046 2.76***

Definition Change -7.9159 -3.26***

Tranche Amount -7.1887 -2.94***

Change > 0 in Facility or Tranche -0.5911

-2.45**Change < 0 in Facility or Tranche -7.3902

Many amended tranches -3.70792.04**

Few amended tranches 0.0830

Late renegotiation -4.44052.37**

Early renegotiation -0.0515

One time renegotiation 1.07645.14***

Frequent renegotiations -8.9093

Variable mean CAR(-1,1) t-test

Large spread -10.54563.43***

Small spread -0.1510Long maturity -7.2129

5.35***Short maturity 2.5810Bilateral loan 0.0561

2.49**Syndicated or club loan -4.2328Large loans amount outstanding 1.5410

-3.23***Small loans amount outstanding -4.3034French legal origin -3.6546 -3.61***Large sales -5.1315

-2.01***Small sales -13.5308Large debt / assets -1.2658

-3.87***Small debt / assets -17.3421Large RoA -2.7433

-3.10***Small RoA -15.7065Large M / B -0.6148

-2.83***Small M / B -10.2846Always rated -1.9003 -2.79***Never rated -2.1685 -2.06**

11

Results (cont.)

Y = CAR (-1,1); X = loan renegotiation + amendment types variables (controls: year + industry + currency)

B.1 C.1 D.1 E.1 F.1 G.1 H.1 I.1Change in loan amount > 0 9.1451***

(3.1918)Change in maturity > 1 year 2.1698

(2.4687)Renegotiations by borrower -4.4498*** -3.5888***

(1.0402) (1.1530)Number of tranches by borrower -0.6035*** 0.0140

(0.2210) (0.2515)Types of amendments by tranche -1.9431*** -1.2764**

(0.6097) (0.6318)Duration until renegotiation -0.0035*** -0.0030**

(0.0013) (0.0013)Duration between renegotiations -0.0189

(0.0820)Obs. 553 339 1367 1354 1354 1367 438 1354Adj. R² 0.1100 0.3010 0.1953 0.1890 0.1938 0.1866 0.4058 0.2010

Significant amendment types: Covenants (fin. & non fin.) + Definition + Fee + Tranche

12

Results (cont.)Y = CAR (-1,1); X = loan renegotiation + loan terms at origination variables (controls: amendment type + year + industry + currency)

B.2 C.2 D.2 E.2 F.2 G.2 H.2 I.2Change in loan amount > 0 11.5666**

(5.6545)Change in maturity > 1 year 1.7292

(4.0013)

Renegotiations by borrower -4.6332*** -4.7528***

(1.2768) (1.3848)Number of tranches by borrower -0.0244 1.1290***

(0.3527) (0.4004)

Types of amendments by tranche -2.8164*** -2.9026***

(0.6405) (0.6165)

Duration until renegotiation -0.0079*** -0.0061***

(0.0019) (0.0018)Duration between renegotiations 0.0175**

(0.0072)Obs. 307 216 847 839 839 847 253 839Adj. R² 0.1644 0.3996 0.1984 0.1853 0.2102 0.1976 0.2615 0.2311Significant loan terms at origination: Multiple tranches + Covenants + Past loan issues

13

Results (cont.)Y = CAR (-1,1); X = loan renegotiation + loan terms at origination + country variables (controls: amendment type + year + industry + currency)

B.3 C.3 D.3 E.3 F.3 G.3 H.3 I.3Change in loan amount > 0 13.3419**

(6.2981)Change in maturity > 1 year 2.9692

(3.8103)Renegotiations by borrower -5.0783*** -5.2243***

(1.3649) (1.4257)Number of tranches by borrower 0.2146 1.4066***

(0.3665) (0.4246)Types of amendments by tranche -2.9536*** -3.1646***

(0.6647) (0.6580)Duration until renegotiation -0.0095*** -0.0072***

(0.0023) (0.0022)Duration between renegotiations 0.0191**

(0.0080)Corporate bonds 0.4597* 0.2163* 0.0855 0.0812 0.1024 0.1039 -0.3153 0.1587*

(0.2557) (0.1098) (0.0884) (0.0898) (0.0884) (0.0919) (0.2412) (0.0935)Private credit -0.2494** -0.1459* -0.0802 -0.0845* -0.1026** -0.1118** 0.0144 -0.1482***

(0.1218) (0.0807) (0.0494) (0.0480) (0.0503) (0.0508) (0.1164) (0.0550)Obs. 255 186 700 694 694 700 219 694Adj. R² 0.1956 0.4216 0.1947 0.1819 0.2094 0.1963 0.2924 0.2385

14

Results (cont.)Y = CAR (-1,1); X = loan renegotiation + borrower variables (controls: amendment type + year + industry + currency)

D.4 E.4 F.4 G.4 H.4 I.4Renegotiations by borrower 0.7929 -0.4738

(1.6367) (1.6882)Number of tranches by borrower 0.8955** 1.0337**

(0.3976) (0.5132)Types of amendments by tranche 0.5304 -0.1853

(0.8708) (1.0882)Duration until renegotiation -0.0043** -0.0043**

(0.0019) (0.0020)Duration between renegotiations -0.0351

(0.0344)log(Sales) -0.6105 -0.6629 -0.7093 -0.4523 2.4792 -0.4650

(0.6021) (0.6071) (0.6405) (0.6018) (1.9010) (0.6572)Debt / Assets 0.2512*** 0.2706*** 0.2702*** 0.2327*** 0.6032** 0.2494***

(0.0555) (0.0567) (0.0660) (0.0532) (0.2976) (0.0645)RoA 0.1806*** 0.1951*** 0.1922*** 0.1622*** 0.0447 0.1747***

(0.0577) (0.0596) (0.0666) (0.0561) (0.1242) (0.0650)Market to Book 0.1346 0.1543* 0.1447* 0.1873** -0.3734 0.2103**

(0.0844) (0.0820) (0.0854) (0.0852) (0.3346) (0.0855)Obs. 335 331 331 335 115 331Adj. R² 0.5574 0.5675 0.5633 0.5625 0.4430 0.5683

15

Results (cont.)• Sensitivity analysis• Global financial crisis (renegotiations after 09/2008)• Excluding UK borrowers• Weak creditor rights countries only (< median index : 3)• Unique renegotiations• Early renegotiation (< median : 2 years)• No covenants in initial loan terms• Syndicated loans only

• Overall results remain robust• Notable exception for loans without covenants (major ex post

monitoring contractual mechanism)

16

Discussion• Stock market reaction to bank loan renegotiation• European firms renegotiate mostly loan amount, maturity and

covenants• Renegotiations occur early in the life of the loan; are not frequent• Substantial changes in amount and maturity• Amendments to financial covenants => CAR +10% to +15%• Early and unique renegotiations => CAR > 0• Bilateral loans with short maturity and few tranches => CAR > 0• Renegotiation (re)shapes borrower-lender relationship & contracting• Bank loan renegotiation matters for shareholders• Renegotiation ~ signal / certification• New information + reduction in IA => “better” contracts