Creditor Intervention, Investment, and Growth Opportunities


We show that creditors do not just ensure that inefficient investment is not undertaken, but also do not preclude efficient investment. Examining what happens following a debt covenant violation, a situation through which creditors acquire some control rights over the firm, we find that investment declines when the firm has few growth opportunities but it may increase otherwise. The results are robust to the use of different proxies for growth opportunities. The firm’s performance improves but it suffers dividend cuts and increased CEO turnover. The results suggest that creditors consider the benefits of growth opportunities as a source of future cash flows to meet outstanding debt obligations.

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  1. 1.

    Daniels and Ramirez (2011), Lee and Sharpe (2009) and Preece and Mullineaux (1994) find empirical evidence consistent with the monitoring role of banks.

  2. 2.

    In a robustness test available upon request, we find similar results four quarters after the covenant violation.

  3. 3.

    These covenants are: Min Current Ratio; Min Net Worth; Min Tangible Net Worth; Min Fixed Charge Coverage; Min Debt Service Coverage; Min Interest Coverage; Min Cash Interest Coverage; Max Leverage Ratio; Max Debt to Cash-Flow; Max Debt to Tangible Net Worth; Max Debt to Equity; Required Lenders (%); Term Changes (%), Collateral Release (%); Max Investment Basket.

  4. 4.

    This is reasonable given that many loans have cross-default clauses, which often means that if the firm is in technical default in one loan, it is automatically considered as in technical default in all of its outstanding loans.

  5. 5.

    As a reference point, in Sufi’s database that includes violations of all covenants there are 16.56 % of covenant violations (3572 observations) that correspond to 644 different firms (34.58 % of the total).

  6. 6.

    These numbers are in line with those from Chava and Roberts (2008) for non-financial firms in the merged CRSP-Compustat database for the period from 1987 to 2005.

  7. 7.

    The results also hold when we use the median value of the market-to-book ratio for the industrial sector (at a secondary SIC code level) instead of the sample median to classify a firm according to its growth opportunities.

  8. 8.

    Using a dummy variable allows us to easily recognize when the firm has many growth opportunities over a period of time, more specifically over four consecutive quarters. The reason why we focus on a period instead of a point in time is to make sure that we are in fact picking up growth-firms and excluding firms that happen to be above the median by chance at a given quarter. Moreover, we are excluding the possibility that an unexpected jump in growth opportunities contemporaneous to the covenant violation may drive the effect in the firm’s investment policy and other dependent variables. This allows us to be more rigorous in the empirical strategy.

  9. 9.

    Vassalou and Xing (2004) find that default risk is related to the market-to-book value of the firm. Nevertheless, our descriptive statistics in Tables 1 and 2 show that average Z-scores are quite high suggesting that default risk may not be an immediate concern.

  10. 10.

    Another proxy for growth opportunities that generates similar conclusions is the past sales growth rate of the firm. Either R&D expenses, past sales growth rate or both are used by Adam and Goyal (2008); Billett et al. (2007); Durnev and Kim (2005); Goyal et al. (2002); Johnson (2003); Rountree et al. (2008), among others.

  11. 11.

    Chava and Roberts (2008) also show that there is a decrease of 0.8 % of capital, using a different sample and a slightly different model specification as they do not control for the differential effect of growth opportunities in violating firms.

  12. 12.

    We thank a referee for providing this intuition.

  13. 13.

    For example, Nash et al. (2003) find that there is a negative relation between the incidence of (some) covenants and growth opportunities, while Bradley and Roberts (2004) find the opposite.

  14. 14.

    We have also conducted estimations of annual M&A and CEO turnover data using cumulative covenant violations. In this case, the dependent variables are advanced by one year. The results are similar to those presented in Panel A of Table 10.

  15. 15.

    See e.g. Roberts and Whited (2012) for a description of the regression discontinuity methodology.

  16. 16.

    We have also carried out an instrumental variable fixed-effect estimation using as instrument of covenant violation a prediction of this variable in terms of Growth Opportunities, Default Distance, (Default Distance) 2, Size, Leverage, Cash-flow and Z-score. The results, available upon request, show that there are no major differences relative to the results in the paper - the main difference is that the coefficients of the main explanatory variables are slightly less negative or equivalently more positive. This outcome indicates that the (negative) reverse causality from investment to covenant violation is much less important than the causality proposed from covenant violation to investment.


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Corresponding author

Correspondence to Josep A. Tribó Giné.

Additional information

We would like to thank two anonymous referees, Andrés Almazán, Albert Banal, Michael Brennan, Max Bruche, Luis Coelho, María Gutiérrez, Miguel Manjón, Pablo Ruiz-Verdú, and seminar participants at the MF Conference 2011, Gerzensee ESSFM 2010, the EFMA Meetings 2010, the EEA-ESEM Meetings 2009, Foro de Finanzas 2009, JEI 2009 and the PFN Conference 2010 for helpful comments. Financial support from Comunidad de Madrid (Grants 2009/00138/001 and 2011/00099/001) and the Spanish Ministry of Science and Innovation (Grants ECO2012-36559, ECO2009-10796, ECO2009-08308, SEJ2006-09401 and Consolider Grant CSD2006-16) is gratefully acknowledged. Any remaining errors are our own.



Variable definitions

Current ratio (CR) Current assets/current liabilities
Net worth (NW) Total assets – total liabilities
Tangible net worth (TNW) Current assets + net plant, property, and equipment + other assets – total liabilities
CR default distance Current ratio – covenant current ratio threshold
NW default distance Net worth – covenant net worth threshold
TNW default distance Tangible net worth – covenant tangible net worth threshold
Default Distance Relative minimum {CR default distance, NW default distance, TNW default distance}
Covenant violation Variable equal to 1 if CR, NW and/or TNW default distance is negative. It is equal to 0 otherwise.
Investment Capital expenditures adjusted for fiscal quarter/lagged net property plan and equipment.
Growth opportunities Variable equal to 1 if the market-to-book ratio (R&D expenses over sales) exceeds the sample median of the market-to-book ratio (R&D expenses over sales) for the last four consecutive quarters (from current quarter to current-3). It is equal to 0 otherwise.
ROA Operating income before depreciation/total assets
Total debt Debt in current liabilities + long term debt
Market-to-book ratio (Market value of equity + total debt)/total assets
Size Log of total assets deflated by the all-urban CPI (year 2000)
Leverage Total debt/total assets
Cash-flow (Income before extraordinary items + depreciation)/lagged net property plan and equipment
(Altman’s) Z-score 3.3 × A + 0.99 × B + 0.6 × C + 1.2 × D + 1.4 × E; where A = EBIT/total assets; B = net sales/total assets; C = market value of equity/total liabilities; D = working capital/total assets; E = retained earnings/total assets.
Liquidity Cash/lagged net property plan and equipment
Covenant Capex Variable equal to 1 if an outstanding loan at a given quarter includes a covenant on capital expenditures. It is equal to 0 otherwise.
Payout ratio Dividends/EBITDA
Debt issuance (Total debt – lagged total debt)/total assets
Spread Total (fees and interests) annual spread paid over LIBOR for each dollar drawn down from the loan (All-in Spread Drawn variable from Dealscan).
Maturity Maturity of a loan in months
Amendment Variable equal to 1 if there is a change in the terms of an outstanding loan contract as reported in Dealscan. It is equal to 0 otherwise.
Lending Relationship Variable equal to 1 if the firm has more than one previous lending relationship with a lead lender in a current lending syndicate. It is equal to 0 otherwise.

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Mariano, B., Tribó Giné, J.A. Creditor Intervention, Investment, and Growth Opportunities. J Financ Serv Res 47, 203–228 (2015).

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  • Covenants
  • Growth opportunities
  • Investment
  • Performance
  • Syndicated loans

JEL classification

  • G21
  • G32