# Presentation: 082763

## Creditor Control Rights and Firm Investment Policyby Greg Nini, Amir Sufi, and David Smith

- Comments by Carlos D. Ramirez

## The Story

- Empirical literature appears to have largely overlooked the importance of contractual restrictions on capital expenditures.
- These restrictions appear to be a very big deal--about 40% of all loan contracts in the sample contain an explicit restriction provision.

## The Story, part 2:

- These restrictions appear to bind! A firm that experiences a deterioration in its financial health (a downgrade), also experiences a 52 percent increase in the likelihood of being imposed a capital expenditure restriction in its loan contract.

## Main Comment

- VERY GOOD PAPER!

## Another motivation point:

- Paper can form part of investment-cash flow sensitivity debate– FHP (and others) vs. KZ (and others)
- In a nutshell: KZ claim that cash flow sensitivities do not appear to increase monotonically with measures of liquidity constraints.
- These results can offer an explanation of why this monotonic relationship may not show up in the data...

## Slide 6

| The Widespread Use of Capital Expenditure Restrictions
(From Sufi’s Slides) |  |  |  |  |  |
| --- | --- | --- | --- | --- | --- |
|  | Mean |  |  | Mean |  |
| Restriction {0,1} | 0.382 |  |  |  |  |
| By industry |  |  | Has credit rating | 0.444 |  |
|  Ag, minerals, construction  | 0.178 |  | Does not have credit rating | 0.314 |  |
|  Manufacturing | 0.382 |  |  |  |  |
|  TCU | 0.319 |  | Conditional on rating: |  |  |
|  Trade—Wholesale | 0.423 |  |  Investment grade | 0.093 |  |
|  Trade—Retail  | 0.480 |  |  Junk | 0.494 |  |
|  Services | 0.458 |  |  AAA, AA | 0.000 |  |
| By size quintile |  |  |  A | 0.047 |  |
|  1 | 0.511 |  |  BBB | 0.112 |  |
|  2 | 0.490 |  |  BB  | 0.464 |  |
|  3 | 0.443 |  |  B | 0.527 |  |
|  4 | 0.310 |  |  CCC or worse | 0.627 |  |
|  5 | 0.152 |  |  |  |  |

## Main Concern:

- Authors recognize a serious difficulty: CAUSALITY
- Sequence of events:
- 1. A firm’s financial health decreases
- 2. New loan contracts contain capital expenditure restrictions
- 3. Capital expenditures decline

## What’s the problem?

- You can go from 1 to 3, without 2!
- Example: Exogenous (macro, industry) shock

## How to deal with this?--1st Test:

- Look at a plot of the actual restriction relative to investment spending.
- Result: Most of the actual spending concentrates around the restriction.
- Authors argue that this is too much of a coincidence.

## 1st Test problem?

- Loan amounts are about 40 percent of assets. (Table 2 of paper) Thus, these loans are large!
- Given that they are so large, firms have a significant incentive to _negotiate_ these loan contracts, including the restriction amount.
- Banks have an incentive to monitor the firms, hence they offer contracts that force firm managers to release more information.
- If so, the kink is not coincidental.

## 2nd Test: Regression analysis

- Regress Capital Expenditures changes on whether the firm had a loan restriction imposed, controlling for year effects and firm performance.

## Main Results

|   | Cap Expenditure | Cap Expenditure |
| --- | --- | --- |
|   | chg yr bef to yr aft | chg 2yr bef to 2yr aft |
| Restriction | -0.003 | -0.004 |
|   | [0.002] | [0.002] |
|   |   |   |
| New Restriction | -0.002 | -0.002 |
|   | [0.003] | [0.002] |
|   |   |   |
| Diff in CF/A | 0.075 | 0.107 |
|   | [0.026] | [0.024] |
|   |   |   |
| Diff in q | 0.023 | 0.026 |
|   | [0.002] | [0.003] |
|   |   |   |
| R^2 | 0.12 | 0.19 |
| N | 2206 | 2206 |

## 2nd Test Problem:

- The capital expenditure coefficient appears to be “fragile” -- sometimes insignificant or significant at the 10 percent.
- Hence it is important to do more robustness checks.

## Suggestion for Robustness Checks:

- Include other measures of performance as controls. (Examples:1.Change in revenues (accelerator theories of investment); 2. The stock of liquid assets to total assets (liquidity constrained)).
- Look at a subsample of firms that received a downgrade. (This constrains the sample to those firms that are likely to reduce investment spending, _regardless of restriction imposition_.)
- Split this subsample by the existence of a capital restriction.

## Last Comment:

- A great paper for $10,000!!