Creditor Control Rights, Loan Enforcement and Bankruptcy Regimes

The paper examines the actions taken by the creditor and the impact on the borrower’s firm value upon a covenant violation across jurisdictions. By analyzing 362 loan facilities concerning 259 borrowers from four jurisdictions with either a pro-creditor or pro-debtor bankruptcy regime over a period of five years (2002-2007), we find that the jurisdiction in which the borrower is incorporated plays an important factor on how its stock price will respond to a covenant violation announcement even though it may not affect the creditors’ decision to provide waivers or change covenants. In addition, contrary to prior findings, the study also shows that creditors do not always reduce allowable borrowings nor tighten existing covenants when the loan agreement is renegotiated after a covenant violation. Instead, new restrictive covenants are often imposed to control the way the borrower utilizes the funds.