Collateral, debt capacity, and corporate investment: Evidence from a natural experiment

Gan, Jie

doi:10.1016/j.jfineco.2006.06.007

Cited by 363 publications

(85 citation statements)

References 59 publications

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“…Also, see Gan (2007) and Chaney, Sraer, and Thesmar (2012). 20 When no confusion is created we will dispense with the use of i and refer to p as the probability a generic unit of land is good.…”

Section: Information-sensitive Debtmentioning

confidence: 99%

Good Booms, Bad Booms

Gorton

Ordóñez

2016

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Credit booms are not rare and usually precede financial crises. However, some end in a crisis (bad booms) while others do not (good booms). We document that credit booms start with an increase in productivity, which subsequently falls much faster during bad booms. We develop a model in which crises happen when credit markets change to an information regime with careful examination of collateral. As this examination is more valuable when collateral backs projects with low productivity, crises become more likely during booms that display large productivity declines. As productivity decays over a boom as an endogenous result of more economic activity, a crisis may be the result of an exhausted boom and not necessarily of a negative productivity shock. We test the main predictions of the model and identify the component of productivity behind crises.

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Section: Information-sensitive Debtmentioning

confidence: 99%

Good Booms, Bad Booms

Gorton

Ordóñez

2016

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“…Gan (2007) finds that debt capacity falls when collateral value decreases. To the extent that collateral value is related to an asset's ability to generate income, a firm with a net loss likely has reduced debt capacity.…”

Section: Notesmentioning

confidence: 99%

Financing a Loss

Rakowski

Elsaid

2012

AFR

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When companies have a net loss accompanied by negative operating cash flows, they must decide how to handle the financing deficit, or, stated differently, they must decide how to finance the loss. By examining a large sample of firms with net losses, we document how companies respond to the financing shock that occurs with negative cash flow. For companies with a one-year loss, current assets decrease and current liabilities increase. While we observe that leverage ratios increase during a loss year, this increase has more to do with decreasing book equity than an increase in long-term debt. However, when the loss persists into a second year, companies make more fundamental changes, often downsizing by decreasing fixed assets and by issuing longer term debt. JEL classification codes: G30, G32, G35.

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“…Some studies study episodes of financial stress during which asset values plummet (Gan (2007) and Chaney, Sraer and Thesmar (2012)). However, a drop in asset values means that the value of firms' equity and debt also decreases, implying that the firm is less creditworthy overall.…”

Section: Introductionmentioning

confidence: 99%

Collateral Damage? On Collateral, Corporate Financing and Performance

2015

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Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in ABSTRACTIn this paper, we investigate the economy-wide effects of the collateral channel by exploiting: (i) a legal reform in Sweden in 2004 that reduced collateral values, and (ii) a dataset that covers all incorporated firms in Sweden over the period [2000][2001][2002][2003][2004][2005][2006]. We find that the loss in collateral value reduces both the amount and the maturity of firm debt and leads firms to contract investment, employment, and assets. The legal reform may distort investment and asset allocation decisions, as firms that reduce their holdings of assets with low collaterizable value and firms that hold more liquid assets consequently become less productive and innovative. Our results therefore document the potency of a collateral channel outside of a crisis.Keywords: Collateral, investment, financial constraints, differences-in-differences, floating lien. JEL Classification: D22, G31, G32ECB Working Paper 1918, June 2016 1 Non-Technical SummaryCollateral is an important contractual device used by borrowers (firms) and lenders (banks) around the world. The term collateral refers to assets pledged by the firm to secure a loan. If the firm defaults on its debt obligation, the bank can seize these assets. The protection that collateral provides should therefore make it easier for firms to obtain loans and to finance their investments. On the other hand, a sudden drop in the value of collateralizable assets should hurt a firm's credit-worthiness and prevent it from funding all desired investments, deteriorating asset values even further and amplifying the downturn. This "collateral channel" is a powerful economic mechanism that many believe to be behind the severity of the Great Recession. In spite of the importance of the collateral channel, however, there is very limited evidence on its inner workings.In this paper, we investigate the economy-wide effects of the collateral channel by Our results indicate that the reform may have had negative consequences for the real economy. We find that the loss in collateral value reduces both the amount and the maturity of firm debt. Following the reduction in debt capacity and maturity, firms reduce investments, employment, and assets. At the same time, firms appear to redirect investments towards assets with a higher collateralizable value. Finally, we find that the reduction in operating scale makes these firms less efficient and less innovative. ECB Working Paper 1918, June...

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Collateral, debt capacity, and corporate investment: Evidence from a natural experiment

Cited by 363 publications

References 59 publications

Good Booms, Bad Booms

Good Booms, Bad Booms

Financing a Loss

Collateral Damage? On Collateral, Corporate Financing and Performance

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