Losing Control? The Two-Decade Decline in Loan Covenant Violations – with Greg Nini and David Smith. 2024. Journal of Finance Forthcoming.

The annual proportion of U.S. public firms that reported a financial covenant violation fell roughly 70% between 1997 and 2019. To understand this trend, we develop an estimable model of covenant design that depends on the ability to discriminate between distressed and non-distressed borrowers and the relative costs associated with screening incorrectly. We find the drop in violations is best explained by an increased willingness to forego early detection of distressed borrowers in exchange for fewer inconsequential violations, which we attribute mostly to a shift in the composition of public firms and partly to heightened investor sentiment during the 2010s.

Where Have All the IPOs Gone? Trade Liberalization and the Changing Nature of U.S. Corporations. 2024. Journal of Financial and Quantitative Analysis Forthcoming.

I show that a tariff policy change that increased trade with China led to a decline in U.S. public listing rates and elevated industry concentration. Consistent with heterogeneous firm models of trade, the shock impeded the entry and performance of small domestic manufacturers but did not adversely impact large multinationals. In addition, stock price reactions to the tariff policy change and threat of reversal imply that trade liberalization creates or destroys value depending on firm size. These findings suggest that recent trends in the U.S. public equity market are driven, in part, by fundamental changes in the global competitive landscape.

Shareholder Litigation Risk and the Information Environment: Revisiting Evidence from Two Natural Experiments – with Audra Boone and Eliezer Fich. 2023. Journal of Corporate Finance (82)102444.

A court case that reduced securities class action litigation risk led to less frequent voluntary disclosure but did not significantly alter information asymmetry among market participants. Conversely, state laws that reduced derivative litigation risk led to more frequent voluntary disclosure but resulted in significantly higher information asymmetry. To reconcile these differences, we highlight that 10b-5 securities class actions address disclosure, while derivative suits can address broader corporate wrongdoing, leading to differential effects on firm operations. Our results suggest that the observed effect of derivative litigation risk on the information environment is primarily driven by concomitant changes in firm operations.

Creditor Control of Corporate Acquisitions – with David Becher and Greg Nini. 2022. Review of Financial Studies 35(4): 1897-1932.

We examine the impact of creditor control rights on corporate acquisitions. Nearly 75% of loan agreements include restrictions that limit borrower acquisition decisions throughout the life of the contract. Following a financial covenant violation, creditors use their bargaining power to tighten these restrictions and limit acquisition activity, particularly deals expected to earn negative announcement returns. Firms that do announce an acquisition after violating a financial covenant earn 1.8% higher stock returns, on average, and do not pursue less risky deals. We conclude that creditors use contractual rights and the renegotiation process to limit value-destroying acquisitions driven by managerial agency problems.


Workplace Discrimination Lawsuits Against U.S. Public Corporations – with Casey Dougal and Irena Hutton

Between 1992 and 2018, U.S. public corporations faced over 36,000 workplace discrimination lawsuits in federal court. Litigation frequency differs widely across firms and regions, correlates with local attitudes toward race and gender, and varies with shocks to cultural tolerance of misconduct. Studying exogenous shifts in competition and financial constraints, we find no evidence that economic forces provide a source of discipline. Consequences are small: shareholder value drops by $1 million around the typical lawsuit, with declining effects for persistent offenders. We conclude that the incidence of workplace discrimination is largely determined by employees’ cultural norms, rather than firms’ economic environment.

Regulatory Burden and M&A Activity – with Eliezer Fich and Joseph Kalmenovitz

Using a novel measure of exposure to federal regulations, we study the impact of firm-level regulatory burden on M&A activity. Firms respond to increased regulation by engaging in more M&A activity, on average, but the effect hinges crucially on firm size. Large firms increase acquisition investment and earn higher announcement returns. In contrast, small firms become more likely to sell out, particularly to strategic acquirers that have a high degree of regulatory overlap. Overall, our findings uncover an unintended consequence of federal regulation that advantages large firms and influences the composition of U.S. industries.

How Well Do Financial Covenants Detect Distress? – with Greg Nini and David Smith

This paper evaluates the ability of maintenance covenants to differentiate between distressed and non-distressed borrowers by estimating Receiver Operatic Characteristic (ROC) curves for common covenant packages. We develop a measure of covenant quality based on a model in which lenders balance the cost of loose covenants – failing to catch a distressed borrower before default (false negatives) – with the cost of tight covenants – triggering renegotiation for too many non-distressed borrowers (false positives). We find that lenders today rely on less restrictive covenants than 20 years ago, driven by a shift in the composition of borrowers and a sharp decline in the use of balance sheet-based covenants. Our evidence suggests that the shift from balance sheet to cash flow covenants enabled lenders to rely on fewer, but higher quality, covenants that better detect distress and substantially reduce the expected number of false positive violations.