Contractual Complexity in Debt Agreements: The Case of EBITDA

61 Pages Posted: 26 Sep 2019 Last revised: 7 May 2021

See all articles by Adam B. Badawi

Adam B. Badawi

University of California, Berkeley - School of Law

Scott Dyreng

Duke University - Accounting

Elisabeth de Fontenay

Duke University School of Law

Robert Hills

Pennsylvania State University

Date Written: May 6, 2021

Abstract

We document significant variation in the contractual definition of EBITDA across syndicated loans and develop a permissiveness score based on the number of adjustments included in EBITDA definitions. We show that permissiveness is associated with tighter covenants but fewer violations. Market responses to covenant violations are more negative when permissiveness is higher. We also find that permissiveness is positively (negatively) related to accrual (cash flow) volatility, suggesting accruals may be less informative about borrowers’ underlying ability to meet their obligations. Our findings suggest that permissiveness in EBITDA definitions enhances the informativeness of covenant realizations by refining EBITDA to better reflect the borrower’s true financial condition.

Keywords: debt covenant, leverage, EBITDA, credit agreement, accruals, cash flows

JEL Classification: G21, G23, G32, K12, K22, M41

Suggested Citation

Badawi, Adam B. and Dyreng, Scott and de Fontenay, Elisabeth and Hills, Robert, Contractual Complexity in Debt Agreements: The Case of EBITDA (May 6, 2021). Duke Law School Public Law & Legal Theory Series No. 2019-67, Available at SSRN: https://ssrn.com/abstract=3455497 or http://dx.doi.org/10.2139/ssrn.3455497

Adam B. Badawi

University of California, Berkeley - School of Law ( email )

215 Boalt Hall
Berkeley, CA 94720-7200
United States

Scott Dyreng

Duke University - Accounting ( email )

Box 90120, Fuqua School of Business
Durham, NC 27708-0120
United States

Elisabeth De Fontenay (Contact Author)

Duke University School of Law ( email )

210 Science Drive
Box 90362
Durham, NC 27708
United States

Robert Hills

Pennsylvania State University ( email )

University Park, PA 16802-3306
United States

HOME PAGE: http://https://directory.smeal.psu.edu/rwh5494

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