Costs of technical violation of accounting-based debt covenants

Article Abstract:

A sample of 91 firms that transgressed accounting-based debt covenants between 1983 and 1987 were studied in order to assess the costs of such technical violations. Research evidence shows that changes in the terms of debt contracts and changes in investing and financing activities result to refinancing and restructuring costs for the violator. It is thus shown that technical violation permits lenders to exercise more control of the firm and to impose several contractual rights. Variations in the costs of technical violation depending on lender response were also discovered. Firms that can get waiver obtain lower costs than those that cannot. The average costs estimated extend from 1.2% to 2% of the market value of equity. Moreover, it was found out that leverage proxies for a subtantial amount of some of the costs involved in technical violations.

Analysis

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The resolution of technical default

Article Abstract:

A study is conducted to find out if technical defaults on corporate debt covenants affect shareholder wealth. Post-default changes in terms of lending agreements are combined with stock returns to determine if the renegotiation of lending contracts are priced in the market. Findings show that default resolution adversely affects shareholder wealth. Specifically, it is found that the increased cost of borrowing and additional restrictions on the company's opportunity sets result in shareholder wealth losses estimated at around 1.4%. It is also shown that leverage measures are not effective substitutes for default or renegotiation costs. Finally, the results suggest that tests of debt covenant effects are better specified when data obtained form lending contracts are used.

Default (Finance)

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Incentives and penalties related to earnings overstatements that violate GAAP

Article Abstract:

Issues discussed concern the prevalence and management of earnings overstatements in corporations subject to the accounting standards and policies of the US Securities and Exchange Commission. Topics addressed include overstatement of earnings by financial managers, incentives for manipulating earning statements, and the penalties imposed on financial managers if their practices violate the Generally Accepted Accounting Principles.

United States, Standards, Statistical Data Included, Laws, regulations and rules, Accounting, Ethical aspects, Securities fraud, Insider trading in securities, Insider trading (Securities), United States. Securities and Exchange Commission, Financial management

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