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Creditor control rights, capital structure, and legal enforcement

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  • Daher, Mai

Abstract

I investigate whether the impact of financial covenant violations on corporate financing policy varies across countries depending on differences in legal enforcement. Covenant violations trigger creditors to use their contractual acceleration and termination rights to increase interest rates or halt any further supply of credit. For a sample of 518 firms in 28 countries, I find that the presence of strong enforcement alleviates a reported decline in net debt issuance following a covenant violation by close to 10%. The results are robust to alternative specifications, the inclusion of a number of control variables and country characteristics, and the use of alternative proxies for legal enforcement and creditor rights. This paper identifies a novel channel, debt covenants, through which creditors respond to the contracting environment, and emphasizes the importance of legal enforcement to financing activity.

Suggested Citation

  • Daher, Mai, 2017. "Creditor control rights, capital structure, and legal enforcement," Journal of Corporate Finance, Elsevier, vol. 44(C), pages 308-330.
    • Handle: RePEc:eee:corfin:v:44:y:2017:i:c:p:308-330
    DOI: 10.1016/j.jcorpfin.2017.04.002
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    3. Beatrice Sarpong‐Danquah & Michael Adusei & Joseph Magnus Frimpong, 2023. "The capital structure–firm performance nexus: The role of judicial efficiency," Managerial and Decision Economics, John Wiley & Sons, Ltd., vol. 44(3), pages 1585-1600, April.
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    6. Wang, Kedi & Wu, Chen, 2024. "Financial-judicial specialization and stock price crash risk: Evidence from China," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 91(C).
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    8. Trinh, Vu Quang & Aljughaiman, Abdullah A. & Cao, Ngan Duong, 2020. "Fetching better deals from creditors: Board busyness, agency relationships and the bank cost of debt," International Review of Financial Analysis, Elsevier, vol. 69(C).
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    11. Wen, Huiyu & Fang, Jincheng & Gao, Haoyu, 2023. "How FinTech improves financial reporting quality? Evidence from earnings management," Economic Modelling, Elsevier, vol. 126(C).

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    More about this item

    Keywords

    Control rights; Enforcement; Judicial effectiveness; Financing policy; Capital structure; Creditor rights;
    All these keywords.

    JEL classification:

    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • K12 - Law and Economics - - Basic Areas of Law - - - Contract Law

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