Intangible Assets and Debt Contracting: An Investigation of the Determinants of Net-Worth Covenants

• In Event: Reception with ELS Posters
  In Poster Session: Research Poster Session I and Friday Reception

Abstract

This paper explores the determinants of the inclusion of total-asset net-worth covenants in debt contracts. In levels analysis, I find that debt contracts are more likely to have total-asset net-worth covenants when borrowers have higher debt to tangible assets ratio, or when lenders have expertise in the borrowing firm’s industry or have a longer lending relationship with the firm. These results are consistent with the decision to include intangible assets in debt covenants being a function of borrowing firms’ reliance on intangible assets to make loan payments and lenders’ industry expertise. To provide additional support for the results of my levels analysis, I conduct a changes analysis using a subsample of firms that experience changes in their net-worth covenants, from excluding intangible assets to including intangible assets and vice versa. The results from the changes analysis supports my levels analysis and provides evidence of a causal link between the use of a total-asset net-worth covenant and the debt-to-tangible assets ratio, lenders’ industry expertise and the length of the lending relationship. This paper contributes to our understanding of the use of intangibles in debt contracting by providing new evidence regarding the link between the use of intangible assets in debt covenants and the characteristics of borrowers and lenders.

Author

• He Wen, The University of Utah