TY - JOUR
T1 - Balance Sheet Conservatism and Debt Contracting
AU - Sunder, Shyam Vallabha Josyula
AU - Sunder, Shyam V.
AU - Zhang, Jingjing
N1 - Funding Information:
* Accepted by Sudipta Basu. We thank Sudipta Basu and two anonymous referees for their guidance and con-structive comments. We also appreciate comments from Anne Beatty, Ningzhong Li, Thomas Lys, Darren Roulstone, Sugata Roychowdhury, workshop participants at Northwestern University, the Ohio State Univer-sity, Florida State University, the Financial Accounting and Reporting Section midyear meeting, the University of Minnesota Empirical Conference, and the London Business School Accounting Symposium. The authors acknowledge support from the Accounting Research Center while the authors were at the Kellogg School of Management. † Corresponding author.
Publisher Copyright:
© CAAA
PY - 2018/3/1
Y1 - 2018/3/1
N2 - We study the role of borrowers’ balance sheet conservatism (i.e., conservatism in asset values) in debt contract design. We find that borrowing costs are decreasing in the degree of balance sheet conservatism, and this effect is stronger for firms with lower credit quality. This is consistent with balance sheet conservatism reducing lenders’ uncertainty about the liquidation value of assets, thus facilitating the ex ante screening of borrowers. We predict that better ex ante screening also reduces the need for ex post monitoring, and find that balance sheet conservatism is associated with less restrictive covenant terms. Further, we find that asymmetric timeliness in earnings is associated with lower borrowing costs only when balance sheet conservatism is not high. This result suggests that lenders appear to recognize the constraining effect of high balance sheet conservatism on future conservatism in earnings.
AB - We study the role of borrowers’ balance sheet conservatism (i.e., conservatism in asset values) in debt contract design. We find that borrowing costs are decreasing in the degree of balance sheet conservatism, and this effect is stronger for firms with lower credit quality. This is consistent with balance sheet conservatism reducing lenders’ uncertainty about the liquidation value of assets, thus facilitating the ex ante screening of borrowers. We predict that better ex ante screening also reduces the need for ex post monitoring, and find that balance sheet conservatism is associated with less restrictive covenant terms. Further, we find that asymmetric timeliness in earnings is associated with lower borrowing costs only when balance sheet conservatism is not high. This result suggests that lenders appear to recognize the constraining effect of high balance sheet conservatism on future conservatism in earnings.
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U2 - 10.1111/1911-3846.12356
DO - 10.1111/1911-3846.12356
M3 - Article
AN - SCOPUS:85041696168
SN - 0823-9150
VL - 35
SP - 494
EP - 524
JO - Contemporary Accounting Research
JF - Contemporary Accounting Research
IS - 1
ER -